Know what is depreciation, and how depreciation is calculated under income tax act.
Under the Income Tax Act, the concept of depreciation is allowed. Depreciation, as per the Income Tax Act, is a deduction allowed for some reduction in the actual value of any intangible or tangible asset the taxpayer uses.
What is Depreciation in the Income Tax Act?
Depreciation is a key accounting concept used to allocate the cost of tangible assets over their useful life. This process helps in accurately reflecting the reduction in value of assets on the profit and loss statement of an entity. Depreciation is mandatory under accounting standards and can be calculated using either the straight-line method or the written-down value method.
The straight-line method spreads the cost of an asset evenly over its useful life, making it simpler and consistent. On the other hand, the written-down value method applies a fixed percentage of depreciation each year to the asset’s reduced book value, resulting in higher depreciation charges in the early years of an asset’s life.
While the written-down value method is widely used across various industries, there is an exception for entities involved in power generation or both generation and distribution. These entities have the option to use the straight-line method for calculating depreciation, which can offer a more stable expense recognition over time.
The Basics of Depreciation Under Income Tax Act
The depreciation concept is used mainly for the writing of any cost over the assets over their useful life. Depreciation is a compulsory reduction in the profit and loss statement of the entity using some depreciable asset under the act, which allows deduction either using the straight-line method or written down value method. The calculation for the depreciation under the written-down value method is used widely. But in case of any undertaking that is engaged in the power generation or its generation and distribution nearby is an option to choose the straight-line method.
In some circumstances, the act also allows the deduction for additional depreciation In the purchase year.
Depreciation Rates for FY 2023-24 for Most Commonly Used Assets
| Asset Class | Asset Type | Depreciation Rate (%) |
| Building | Residential Buildings (excluding boarding houses and hotels) | 5 |
| Building | Boarding houses and hotels | 10 |
| Building | Temporary structures (wooden) | 40 |
| Furniture | Furniture and fittings (including electrical) | 10 |
| Plant and Machinery | Motor cars (not for hire) | 15 |
| Plant and Machinery | Specific motor cars (purchased Aug 2019 – Apr 2020) | 30 |
| Plant and Machinery | Lorries/taxis/buses (for hire) | 30 |
| Plant and Machinery | Specific lorries/taxis/buses (purchased Aug 2019 – Apr 2020) | 45 |
| Plant and Machinery | Computers and software | 40 |
| Plant and Machinery | Professional books (annual publications) | 100 |
| Plant and Machinery | Professional books (not annual publications) | 60 |
| Plant and Machinery | Lending library books | 100 |
| Intangible Assets | Franchises, trademarks, patents, licenses, copyrights, etc. | 25 |
Depreciation Rates as per the Income Tax Act
This depreciation rate chart, applicable for the fiscal year 2023-24, helps calculate depreciation for various asset classes. It is divided into two sections:
- Part A for Tangible Assets
- Part B for Intangible Assets
Part A Tangible Assets
Building
| Sr. No. | Asset Type | Rate of Depreciation |
| 1 | Buildings primarily for residential purposes (excluding boarding houses and hotels) | 5% |
| 2 | Buildings not primarily for residential purposes and not covered by subitems 1 and 3 | 10% |
| 3 | Buildings acquired on or after September 1, 2002, for plant and machinery in water treatment systems or water supply projects used for business purposes (as per section 80-IA) | 40% |
| 4 | Purely temporary structures like wooden buildings | 40% |
Furniture and Fittings
| Asset Type | Rate of Depreciation |
| Furniture and fittings, including electrical fittings | 10% |
Plant and Machinery
| Sr. No. | Asset Type | Rate of Depreciation |
| 1 | General plant and machinery (excluding specific sub-items) | 15% |
| 2 | Motor cars (excluding those used for hire) acquired or put to use on or after April 1, 1990 | 15% |
| 3 | Motor cars (excluding those used for hire) acquired between August 23, 2019, and April 1, 2020, and put to use before April 1, 2020 | 30% |
| 3(i) | Aeroplanes, Aero Engines | 40% |
| 3(ii)(a) | Motor taxis, buses, and lorries used for hire | 30% |
| 3(ii)(b) | Motor buses, lorries, and taxis used for hire, acquired between August 23, 2019, and April 1, 2020, and put to use before April 1, 2020 | 45% |
| 3(iii) | Commercial vehicles acquired on or after October 1, 1998, but before April 1, 1999, and used before April 1, 1999 (as per section 32) | 40% |
| 3(iv) | New commercial vehicles acquired on or after October 1, 1998, but before April 1, 1999, replacing condemned vehicles over 15 years old and used before April 1, 1999 (as per section 32) | 40% |
| 3(v) | New commercial vehicles acquired on or after April 1, 1999, but before April 1, 2000, replacing condemned vehicles over 15 years old and used before April 1, 2000 (as per section 32) | 40% |
| 3(vi) | New commercial vehicles acquired on or after April 1, 2001, but before April 1, 2002, and used before April 1, 2002 | 40% |
| 3(vi) | New commercial vehicles acquired between January 1, 2009, and October 1, 2009, and used before October 1, 2009 | 40% |
| 3(vii) | Moulds used in plastic and rubber goods factories | 30% |
| 3(viii) | Air pollution control equipment | 40% |
| 3(ix) | Water pollution control equipment | 40% |
| 3(x)(a) | Solid waste control equipment | 40% |
| 3(x)(b) | Resource recovery and solid waste recycling systems | 40% |
| 3(xi) | Semiconductor industry equipment (excluding specific entries) | 30% |
| 3(xi)a | Life-saving medical equipment | 40% |
| 4 | Plastic or glass containers used as refills | 40% |
| 5 | Computers and software | 40% |
| 6 | Plant and machinery in the textile industry (under TUFS) acquired between April 1, 2001, and April 1, 2004, and used before April 1, 2004 | 40% |
| 7 | Plant and machinery in water treatment systems or water supply projects acquired on or after September 1, 2002, and used for providing infrastructure facilities (as per section 80-IA) | 40% |
| 8 | Specific plant and machinery, including those used in artificial silk manufacturing, cinematograph films, and energy-saving devices (with specific subcategories) | 40% or 15% as applicable |
Ships
| Sr. No. | Asset Type | Rate of Depreciation |
| 4(i) | Ocean-going ships, including tugs, survey launches, dredgers, barges, and other similar ships used for dredging and sighting vessels with wooden hulls | 20% |
| 4(ii) | Vessels ordinarily operating on inland waters (excluding speed boats) | 20% |
| 4(iii) | Speed boats operating on inland waters | 20% |
Part B Intangible Assets
Intangible Assets
| Asset Type | Rate of Depreciation |
| Franchise, trademark, patents, licenses, copyrights, know-how, or other commercial/business rights of a similar nature | 25% |
Rates of Depreciation
The Income Tax Act provides a depreciation rate chart divided into two parts: Part A for Tangible Assets and Part B for Intangible Assets. The rates of depreciation vary depending on the type of asset. For example, the depreciation rate for residential buildings is 5%, while the rate for computers and software is 40%
The Block of Assets
Depreciation is mainly calculated on the written-down value of the block of the asset. The block of assets is primarily a group of assets that feature a class of assets comprising tangible assets that are building plant machinery or furniture.
It also includes intangible assets being know-how patent Registration, copyright license, trademark franchise, or any other business or commercial rights of a similar nature.
The block of the asset would be identified depending on the natural life and the similar use. Additional depreciation percentages within the class of assets should be considered for all the asset classifications. The such asset class with the same depreciation rate would be identified as the asset block. Individual assets lose their identity under the Income Tax Act, like depreciation would be calculated on the asset block instead of the unique asset.
Conditions For Claiming Depreciation
The assets should be owned partially or completely by the income taxpayer
Furthermore, the assets should be used for the business but another purpose also, and depreciation allowable should be proportionate to the use of the business purpose. The income tax officer would also have the right to understand the proportionate part of the depreciation given under section 38 of the act.
Co-owners can also claim depreciation to some extent for the value of the asset switch is owned by all the Co-owners.
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You cannot claim any depreciation on the goodwill or the cost of the land
Depreciation is compulsory from the financial year 2000 to 2003. It should be allowed or deemed to have been allowed as a deduction irrespective of any claim made by the taxpayer in the profit and loss statement. Hence the taxpayer can always carry forward the written-down value after reducing the amount of depreciation.
The deemed profit is considered depreciation’s effect if it has opted for a presumptive taxation scheme.
Under the Companies Act 1956, depreciation is different from the Income Tax Act. Hence the depreciation rate would be prescribed under the Income Tax Act, which is only allowed irrespective of any depreciation rate charged in the account box.
Claiming Depreciation Under Income Tax Act
Assets Classifications
To claim depreciation under income tax act, the asset must be used in connection with the taxpayer’s business or profession. The owner of the asset must be an assessee to benefit from depreciation.
The asset can be both real and intangible. In terms of a tangible asset, it can be a home, equipment, factory, or furniture. Intangible properties may be patent rights, copyrights, trademarks, licences, franchises, or something of a similar type gained on or after April 1, 1998.
Lease Vs Ownership
In the USA, if you hold business or investment property as a life tenant, you can depreciate it as if you were the absolute owner of the property. However in India land is not depreciable, but land improvements such as roads, sidewalks, or landscaping may be written off over the lease periods depending on the specific nature of the asset.
Used for Professions or Business
To claim depreciation as per the Income Tax Act, the asset must be used in connection with the taxpayer’s business or profession.
On Sold Assets
If a depreciated asset is sold before its useful life is over, then the sale proceeds are compared to the written-down value of the asset. If the sale proceeds are more than the written-down value, then the difference is treated as taxable income. If the sale proceeds are less than the written-down value, then the difference is treated as a tax deduction.
Co-ownership
Co-owners can claim depreciation up to the percentage of their co-assets
Meaning Of Written Down Value
The asset’s written down value is intern calculated regarding the actual cost of the asset reference. It is essential to understand the meaning of the written-down value on actual cost when calculating depreciation. The written down value under the Income Tax Act means the value where the asset was acquired in the previous year, and the actual asset cost would be treated as the return down value. If the asset was calculated in the last year, the return down value should be the actual cost minus the depreciation, which is allowed under the Income Tax Act:
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Total Amount Of Depreciation Allowed
The depreciation is calculated as per the written-down value method. There is an exception to this when the engagement of undertakings takes place in the power generation or the generation and distribution-like execution has some option to claim depreciation on the written down method or the straight-line method then this option would be exercised before the Sales tax return last date
Main Methods for Calculating Depreciation with Explanation
The depreciation methods and the valuable life of the depreciable assets differ for all the assets. Based on the asset type, all industries can vary for taxation and accounting purposes. Additionally, the most commonly employed depreciation methods include the written-down value and straight-line methods. Other than the depreciation rate, the primary difference between depreciation calculation regarding the Income Tax Act and Companies Act is also the method that is used for calculating depreciation.
The Companies Act 2013 includes the depreciation methods, the straight-line method, the written-down value method, and the unit of production method.
The Formula for Calculating Depreciation
The straight-line method rate of depreciation in clothes original cost minus the residual value divided by the useful life into 100.
Depreciation would equal the original cost to the depreciation rate as per the slm.
Depreciation methods are different for all taxation but for all accounting purposes. Hence the amount of depreciation would differ, which gives rise to the difference in timing. Such timing differences should be quantified in any financial statement in the form of asset or deferred tax liability. As per accounting standard 22, the deferred tax is mainly income tax payable or recoverable in the future timeline due to the temporary taxable difference. The temporary difference includes the difference between carrying the amount of the types of assessee in the balance sheets.
Conclusion
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FAQs
What is depreciation according to the Income Tax Act?
Depreciation is a deduction allowed under the Income Tax Act for the reduction in the real value of a tangible or intangible asset used by a taxpayer. The concept of depreciation is used for the purpose of writing off the cost of an asset over its useful life.
What are the different methods of depreciation allowed under the Income Tax Act?
The different methods of depreciation allowed under the Income Tax Act include the Straight-Line Method and the Written Down Value (WDV) Method. Other methods of depreciation include the Unit of Production Method, the Sum of Years' Digits Method and the Double Declining Balance Method.
How is depreciation calculated for assets used for only 180 days in a financial year?
If an asset is used for only 180 days or less in a financial year, then the amount of depreciation allowed is equal to 50% of the amount calculated using normal depreciating rates.
What are the depreciation rates for different types of assets under the Income Tax Act?
The depreciation rates for different types of assets under the Income Tax Act are provided in a depreciation rate chart divided into two parts. Part A includes Tangible Assets, and Part B includes Intangible Assets. The rates of depreciation vary depending on the type of asset.
Can I claim depreciation on intangible assets like software and patents?
Yes, depreciation can be claimed on intangible assets like software and patents. The depreciation rates for intangible assets are provided in Part B of the depreciation rate chart.
Is there a maximum limit on depreciation that can be claimed in a year?
No, there is no maximum limit on depreciation that can be claimed in a year. However, the amount of depreciation claimed cannot exceed the cost of the asset.
What is the difference between straight-line depreciation and reducing balance method for tax purposes?
The straight-line method assumes that the asset depreciates by an equal percentage of its original value for each year that it's used. In contrast, the reducing balance method assumes that the asset depreciates more in the earlier years. The reducing balance method is generally used for tax purposes.
Can I claim depreciation on assets used for both personal and business purposes?
Depreciation can be claimed only on assets used for business purposes. If an asset is used for both personal and business purposes, then depreciation can be claimed only on the proportion of the asset used for business purposes.
What happens if I sell a depreciated asset before its useful life is over?
If a depreciated asset is sold before its useful life is over, then the sale proceeds are compared to the written-down value of the asset. If the sale proceeds are more than the written-down value, then the difference is treated as taxable income. If the sale proceeds are less than the written-down value, then the difference is treated as a tax deduction.
Are there any specific documentation or records required to support depreciation claims for tax purposes?
Yes, specific documentation or records are required to support depreciation claims for tax purposes. These include invoices, receipts, and other documents that provide evidence of the cost of the asset the date of purchase and the date of use.
Also, read:
- Importance of ITR filing
- What are the Different forms of Income Tax returns?
- How to pay TDS for Interest on Fixed Deposit?
- How to download Income Tax Assessment Form?
- Types of Returns Explained
- Updates in new offline ITR utility
- How to file Income Tax Return after the due date?
- What are the types of ITR forms?
