Depreciation to be provided for purposes of determining net profits for payment of managerial remuneration - Companies Law - Letter : No. 10(1)‑CL‑VI/61,

Letter : No. 10(1) ‑ CL ‑ VI/61, dated 31 ‑ 5 ‑ 1964. Subject:- Depreciation to be provided for purposes of determining net profits for payment of managerial remuneration Query : In paragraph 2 of the memorandum, it is stated that in calculating the amount of depreciation to be deducted ... in respect of the first financial year ending on or after December 28, 1960, the written down value should be worked out by deducting the normal depreciation allowed for income‑tax purposes ... in respect of financial years ending on or before December 27, 1960, from the written down value of the fixed asset (before provisions of depreciation) as shown by the books of account of the company at the end of the financial year ending on the date of the commencement of the Companies Act, 1956, i.e., April 1, 1956, or immediatley thereafter ; reference is also made to a notional written down value for the limited purposes of section 350. The chambers, after carefully studying the proposal for calculating the depreciation, are of the considered opinion that it is contrary to the provisions of section 350 of the Act as amended. Your memorandum ignores the express wording of the new section 350 which states that depreciation shall be calculated with reference to the written down value of the assets as shown by the books of the company at the end of the financial year expiring at the commencement of this Act or immediately thereafter and at the end of each subsequent financial year . The suggestions in your memorandum could only result in the depreciation calculation being based on a notional figure whereas the Act clearly stipulates that the calculation shall be based on the written down value at the end of the financial year concerned. Taking as an example a company whose financial year is the calendar year, the first financial year to which the Companies Act applied, was its year ended December 31, 1956, i.e., the financial year expiring at the commencement of this Act or immediately thereafter . Its financial year ended December 31, 1960 is, therefore, a subsequent financial year . Consequently, in accordance with the provisions of the new section 350, depreciation for that financial year must be and can only be calculated with reference to the written down value of the assets as shown by the books of the company at December 31, 1960. For the reasons stated above the chambers are of the opinion that the notional calculation implicit in the memorandum sent with your letter is not in conformity with the provisions of section 350 of the Act, and that depreciation must be calculated with reference to the written down value of the assets as shown by the books of the company at the end of each financial year. Answer : The Government of India is unable to accept the view that, for the purpose of section 350, depreciation must be calculated with reference to the written down value of the assets as shown by books of the company at the end of each financial year. After giving due consideration to the points raised by you, Government still feel that while the written down value of the assets as shown by the books of the company at the end of the financial year expiring at the commencement of the Companies Act, or immediately thereafter, will have to be adopted as the basis for calculating depreciation in respect of subsequent financial years the written down value for the purpose of section 350 should be calculated by applying from year to year the rates of depreciation specified for the asset by the Indian Income‑tax Act, 1922 and the rules made thereunder. Such written down value for the subsequent years, would necessarily be a notional written down value, as stated in this Department s memorandum referred to by you. In the opinion of the Government, the written down value of an asset as shown in the books of the company at the end of any subsequent year after 1956 could not properly be taken as the basis for calculating depreciation for the next year inasmuch as, in such a case, if the depreciation provided for in the profit and loss account of the company in any financial year is higher than what is contemplated under section 350 of the Companies Act, there would be an under provision for depreciation in the following years. Such practice, it will be conceded, would be clearly opposed to sound financial and accounting practice.