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TMI BlogCalculation of depreciation for computation of net profits for the purposes of managerial remuneration Department’s memorandum on interpretation of the sectionX X X X Extracts X X X X X X X X Extracts X X X X ..... roadly indicated below : In calculating the amount of depreciation to be deducted under section 350, as recently amended, in respect of the first financial year, which ends on or after the commencement of the Companies (Amendment) Act, 1960, i.e., December 28,1960, the written down value should be worked out by deducting the normal depreciation allowed for income‑tax purposes and which was deductible in accordance with the provisions of section 350 as they stood before the recent amendment of this section, in respect of financial years ending on or before December 27, 1960, from the written down value of the fixed assets [before provision of depreciation] as shown by the books of account on the date of the commencement of the Companies Act, 1956, i.e., April 1, 1956, or immediately thereafter. [In determining the notional written down value for the limited purposes of section 350, extra and multiple shift allowances need not be taken into consideration in respect of financial years which ended on or before December 27,1960]. After the notional written down value has been determined as indicated above, depreciation should be calculated by applying the rates specified in respe ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ct to the provisions of the section. The queries raised by them in this connection and the departmental views in regard to such problems are set out below : 1. Since section 350 provides that depreciation shall be calculated with reference to the written down value of the assets shown by the books of the company, whether it would be advisable to adopt the basis of notional written down value contemplated in the departmental memorandum? A close perusal of the wording of section 350 will make it clear that written down value as shown by the books has to be taken into account for purposes of section 350 in respect of the first financial year expiring at or immediately after the commencement of the Companies Act, 1956 and that in respect of the first subsequent financial year, the written down value for the purpose of section 350 will have to be calculated separately by applying the income‑tax rates of depreciation on the written down value mentioned above. The depreciation for the next financial year should be calculated by applying the income‑tax rates to the said written down value reduced by the amount of depreciation calculated for the previous financial year. Simila ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... be an under provision of depreciation for the purposes of section 350, as would be seen from Illustration 1 given below : ILLUSTRATION 1 Provided in the P & L Account at the rate of25% (straight line method) Book written down value Provided at the rate of 20% u/s 350 on the basis of book written down value Rs. Rs. Rs. Cost : First year 2,500 1,000 2,500 2,000 Second year 2,500 7,500 1,500 2,500 Third year 2,500 5,000 2,500 1,000 Fourth year 2,500 2,500 2,500 500 Fifth year Nil Nil Nil Nil Nil Nil Total depreciation provided 10,000 5,000 Assets sold in the sixth year for 2,000 2,000 Total amount charged 8,000 3,000 It will thus be seen that if the book value basis is followed continuously depreciation to the extent of Rs. 5,000 would not be provided for the purposes of section 350, in the above circumstances. Similalry, if a company does not declare dividend it is open to it to provide no depreciation in its profit and loss account to provide for it at rate lower than those prescribed in section 350. This would distinctly result in the overcharging of depreciation (i.e., more than 100 per cent of the cost of the assets) as will be seen ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... before December 28, 1960, the application of the rate of depreciation including extra and multiple shift allowance in calculating the notional written down value would only create hardship to the company managements [as the arrears of extra and multiple shift allowance for previous years would require to be deducted in the very first financial year after the commencement of the Companies (Amendment) Act, 1960] and distort the profitability position of the companies concerned. It would not, therefore, be appropriate to deduct extra and multiple shift allowance in respect of financial years ending on or before December 27, 1960 in calculating the notional written down value for the purposes of section 350. 3. In the case of companies, whose fixed assets have been revalued by writing up the difference to a capital reserve account, whether the written down value should, or the purposes of section 350, be taken as the original cost ? If any asset or assets has or have been revalued prior to the expiry of the financial year ending on April 1, 1956 or immediately thereafter, the amount added on revaluation would be a part of the book value in computing the notional written down value in ..... X X X X Extracts X X X X X X X X Extracts X X X X
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