When companies undergo a merger or acquisition, the treatment of depreciation on transferred assets is governed by specific provisions of the Income Tax Act. The key objective is to ensure that the tax benefit of depreciation already claimed by the transferor is preserved for the transferee, subject to certain conditions.

Key Points to Consider:

• Carry Forward of Unabsorbed Depreciation:
  Under the provisions applicable to amalgamations and demergers, any unabsorbed depreciation on assets of the transferor can be carried forward by the acquiring company. This means that if a company has already claimed depreciation in previous years, that benefit can continue in the new entity, provided the required conditions are met.

• Continuity Conditions:
  For the depreciation benefit to be transferred, the following conditions must generally be satisfied:

  • Continuity of Business: The acquiring company should continue the same business operations as the transferor.

  • Shareholding Continuity: There is often a requirement that a certain percentage (commonly 50% or more) of the transferor’s share capital or voting power is maintained by the acquiring company.

• Basis of Depreciation for Transferred Assets:
  The cost of the asset in the hands of the acquiring company is typically taken as the cost in the hands of the transferor, adjusted for any unabsorbed depreciation already claimed. This ensures that the depreciation deductions for future years are computed on the written-down value carried forward from the transferor’s books.

Practical Impact:

• If Conditions Are Met:
  The acquiring company continues to claim depreciation on the transferred assets, and the benefit of unabsorbed depreciation is preserved. This helps in maintaining a lower taxable income post-merger or acquisition.

• If Conditions Are Not Met:
  If the continuity conditions fail, the depreciation claimed by the transferor may not be carried forward. In such cases, the acquiring company might have to start fresh without that tax benefit, potentially resulting in higher taxable profits.

When a company invests in new plant and machinery, particularly for manufacturing purposes, it may be eligible for an extra deduction known as additional depreciation. This benefit is designed to encourage capital investment in productive assets.

Step-by-Step Process

1. Determine the Cost of the New Asset:

• Actual Cost: Start with the purchase price and add all incidental expenses (like installation, transportation, and other directly attributable costs).

• Exclusions: Land costs are not considered.

2. Check Eligibility:

• New and Unused: The asset must be newly acquired and should not be a second-hand purchase.

• Business Use: It must be used wholly and exclusively for the purpose of manufacturing or the eligible business activity.

• Manufacturing Sector: Additional depreciation is typically available only for assets used in manufacturing.

3. Apply the Additional Depreciation Rate:

• The rate for additional depreciation is generally 15% of the cost of the asset.

• Computation:

  Additional Depreciation=Cost of New Asset×15%\text{Additional Depreciation} = \text{Cost of New Asset} \times 15\%Additional Depreciation=Cost of New Asset×15%

4. Claim the Deduction:

• This extra deduction is allowed in the year the asset is put to use.

• It is claimed in addition to the normal depreciation computed under the usual rates prescribed in Section 32.

Example Illustration

Imagine a manufacturing company buys new machinery at a cost of ₹10 lakh (inclusive of all incidental expenses).

• Normal Depreciation: (Calculated separately as per the prescribed rates under Section 32.)

• Additional Depreciation:

  ₹10 lakh×15%=₹1.5 lakh₹10\, \text{lakh} \times 15\% = ₹1.5\, \text{lakh}₹10lakh×15%=₹1.5lakh

This ₹1.5 lakh is deducted as an extra allowance, reducing the company’s taxable income.

Key Points to Remember

• Exclusive Use: Additional depreciation is available only if the asset is used entirely for the eligible business activity.

• Not for All Sectors: It primarily applies to the manufacturing sector; service-oriented businesses usually do not qualify.

• Documentation: Maintain proper records of the purchase, installation, and usage of the asset to substantiate your claim.

When it comes to determining the “actual cost” of an asset for tax purposes, the Income Tax Act, 1961 requires you to consider all the expenses incurred in acquiring and putting the asset to use. Here’s a step-by-step guide:

Step 1: Identify the Base Cost

• For Purchased Assets:
  This is the price you actually paid for the asset.

• For Gifts or Inherited Assets:
  The actual cost is usually the market value on the date of transfer or as provided by Section 48 of the Act.

Step 2: Add Incidental Expenses

• Include all expenses directly attributable to acquiring the asset, such as:

  • Stamp duty and registration fees

  • Brokerage and legal fees

  • Any other charges incurred in the acquisition process

Step 3: Include Capital Improvements

• If you have incurred expenses on improvements or renovations that add to the asset’s value (and these are capital in nature), include these in your cost calculation.

Step 4: Determine the Total Actual Cost

• Sum Up:
  The actual cost is the aggregate of the base cost, incidental expenses, and capital improvements.

• This figure represents the total expenditure made to bring the asset into a usable condition.

Step 5: Adjust for Inflation (if Applicable)

• Indexation Benefit:
  For long-term capital gains purposes, you may apply the Cost Inflation Index (CII) to the actual cost. However, note that indexation is applied after calculating the actual cost.

Key Takeaways

• Actual Cost = Purchase Price (or Market Value) + Incidental Expenses + Capital Improvements.

• For Long-Term Assets:
  Use indexation on the actual cost to adjust for inflation when computing capital gains.

• Documentation:
  Maintain all receipts and documents to support each component of the cost.

By carefully calculating these components, you can accurately determine the actual cost of your asset as required by the Income Tax Act. This helps ensure that your capital gains calculations are precise and that you optimize your tax benefits.