Actual Cost of Assets used for business or profession
Introduction
Actual cost of an asset shall mean the cost incurred by the assessee to bring the asset to its present location as reduced by that portion of the cost which is met directly or indirectly by any other person. In certain circumstances, the actual cost of an asset is substituted by its ‘notional cost’.
1. Actual Cost of Fixed Asset - Inclusions
The expression ‘actual cost’ must be understood in the commercial sense as per normal rules of accountancy prevailing in the commercial/industrial world. As per Accounting Standard 10 (Property, Plant and Equipment), at the time of initial measurement of cost of a fixed asset, it shall include its purchase price and all direct costs incurred to to make the asset ready for use.. For Income-tax Act, it means the actual cost to the assessee as reduced by the proportion of the cost met, directly or indirectly, by any other person or authority.
The actual cost of a fixed asset as per Income-tax Act shall be aggregate of its acquisition cost and all following costs.
1.1. Attributable incidental expenses
(a) It would include the expenses incurred to bring the asset to the site of installation. Example, cost of freight, import duty, insurance, dock charges, demurrage, etc.
(b) It would include expenses incurred for installation and putting the plant and machinery in the working condition. Example, Staff training expense relating to installation but not relating to maintenance
(c) Payment of technical fees or know-how for erecting and commissioning plant and machinery to be included in the cost of the asset
(d) Guarantee commission paid to the bank for buying a machinery from a foreign firm shall be included in the actual cost of asset
1.2. Interest on borrowings
(a) Where a new concern borrows money to acquire an asset, amount of interest, pertaining to the period before commencement of the production, shall be capitalized
(b) Interest for the period before the asset is put to use shall be added to the actual cost of asset and interest pertaining to the period after asset is put to use shall be claimed as deduction under Section 32(b).
The mechanism for calculation of interest expenditure, in respect of general or specific borrowings, which shall be capitalized with actual cost of asset, is provided for by ICDS-IX (Borrowing Cost).
1.3. Trial-run Expenses
Expenses incurred on trial-run production before commencement of business or before asset is put to use shall be capitalized. Any sale proceeds realised from sale of trial-run product shall be deducted from pre-production expenses. Only net amount should be added to the cost of acquisition of the plant and machinery. Where sale price of trial-run product exceeds pre-production expenses, such excess should be deducted from cost of the machinery
2. Actual Cost of Fixed Asset - Deductions
Following components, if added in the cost of fixed asset, shall be deducted while calculating the actual cost of an asset as per the Income-tax Act.
2.1. Payment in cash
If assessee incurs any expenditure for acquisition of any asset in respect of which payment (or aggregate of payments) made to a person in a day, otherwise than by specified banking or online mode, exceeds Rs. 10,000, such expenditure shall be ignored for the purposes of determination of actual cost.
‘Specified Banking or Online Mode’ means transaction by an account payee cheque or an account payee bank draft or use of electronic clearing system through a bank account or through such other electronic mode as may be prescribed.
2.2. Interest expenses after asset is put to use
If any amount is paid or payable as interest in connection with acquisition of an asset, amount of interest as is relatable to any period after such asset is first put to use shall not be included in the actual cost of such asset. Such interest shall be claimed as deduction under Section 32(b).
2.3. Rent or Taxes
Ground rent or property taxes paid before the asset is put to use shall not be capitalized with the actual cost of asset
2.4. Taxes eligible for credit
If input tax credit is available for any taxes (i.e., GST or Custom Duty) paid in respect of an asset, these taxes shall be excluded while determining the actual cost of asset.
2.5. Cost met by other person
If any portion of cost is met, directly or indirectly, by any other person, it shall be reduced from the actual cost. Thus, where a foreign company granted loan to purchase a machinery and subsequently the loan was waived off, the cost of the machinery should be reduced by the amount of loan waived off by the lender
2.6. Subsidy Income
If assessee acquires any asset and its cost is met, directly or indirectly, by the government or any other authority (established under law) by way of subsidy, grant or reimbursement (collectively called as ‘grant’), the cost of such asset is reduced by the amount of such grant.
If such grant is of such nature that it cannot be directly relatable to any particular asset, so much of the amount which bears to the total grant, the same proportion as such asset bears to all the assets in respect of which or with reference to which such grant is received, shall not be included in the actual cost of the asset to the assessee. Deduction for these grants shall be allowable in accordance with the provisions of ICDS VII (Government grants).
Exception 1:
Where loan granted by the Govt. or any authority, for setting-up an industrial undertaking, is waived off, the said amount shall be taxable in the hands of the assessee under Section 2(49)(xviii) and it shall not be deducted from the actual cost of asset.
Exception 2:
If subsidy scheme of the Government intended to accelerate industrial development and it was not intended to subsidize the cost of capital, it would not go to reduce the cost of capital asset. It would be taxable in the hands of the assessee under Section 2(49)(w).
2.7. Incidental Income
If assessee receives any amount which is inextricably linked with the process of acquisition or setting up the plant and machinery, such receipt will be reduced from the cost of such asset. Thus, if any amount is received by the assessee for providing utilities in connection with setting up of plant and machinery should be reduced from cost of acquisition
2.8. Trial run income
As per ICDS-V (Tangible Fixed Assets) any sale proceeds realised from sale of experimental products shall be reduced from cost of acquisition of a fixed asset.
2.9. Compensation paid by supplier
If any compensation is paid by the seller for delay in the delivery of the machinery, it would not be reduced from the capital cost of the machinery. The compensation is taxable as revenue receipt under Section 26 because it has no connection with the delivery of the machinery and it is paid to set off the loss caused due to delay in delivery
2.10. Interest earned from surplus funds
If assessee borrows money for acquisition of asset but deposits that money in bank fixed deposits to earn interest, even for the temporary period, the interest so generated will not be allowed to be deducted from the actual cost of asset
However, if assessee deposits money to open a letter of credit for the purchase of a machinery, the interest earned thereon will be reduced from the cost of machinery. As deposit of money is directly linked with the purchase of plant and machinery, any income earned on such deposit is incidental to the acquisition of assets. Thus, the interest would be reduced from the cost of asset
3. Notional Cost of Fixed Asset
In certain cases, the concept of actual cost is substituted by ‘notional cost’. The concept has been introduced to avoid double deduction or to prevent avoidance of tax. In the following cases, actual cost of a fixed asset is calculated on notional basis.
3.1. Scientific Research Assets
If an asset is used in the business after it ceases to be used for scientific research, the actual cost of such asset to the assessee is taken to be the actual cost to the assessee as reduced by the amount allowed as deduction under Section 45.
Example, A Co. purchases a machinery for Rs. 120 lakhs in April, Year 00 for the purpose of scientific research. The entire amount of Rs. 120 lakhs is allowed as deduction under Section 45 in the relevant tax year. In November, Year 01, the machine is transferred to assessee’s factory, after it ceases to be used for scientific research. For the purpose of claiming depreciation for the relevant tax year (Year 02), the actual cost would be nil as the entire cost has already been allowed as deduction under section 45.
3.2. Asset acquired by gift or inheritance
Where an asset is acquired by the assessee by way of gift or inheritance, the actual cost of the asset to the assessee shall be the actual cost to the tax owner, as reduced by:
(a) The amount of depreciation actually allowed in respect of tax year commencing on April 1, 1986 or any earlier tax year; and
(b) The amount of depreciation allowable to the assessee for tax year commencing on or after April 1, 1987 under the Income-tax Act 2025 or under the Income-tax Act 1961, as if it was the only asset in the relevant block of asset.
This provision shall not apply in a situation where assets are acquired on partition of HUF as it does not amount to property inherited by members
3.3. Second-hand asset
If, before date of acquisition by assessee, the assets were at any time used by any other person for the purposes of his business or profession and Assessing Officer is satisfied that the main purpose of transfer of such assets to the assessee is claiming higher depreciation with reference to enhanced cost. In this situation, the Assessing Officer may determine the actual cost of such asset having regard to the circumstances of the case. Before exercising the option, the Assessing Officer is required to take prior approval of the Joint Commissioner.
Exception 1
This provision cannot be invoked in bonafide cases where purpose of buying the second-hand is not to reduce the tax liability. Example, if trucks are transferred from one entity to another so that national permit can be obtained by achieving the prescribed number of trucks in fleet. This provision can’t be applied in this situation as second-hand assets have been acquired for commercial reasons and not for reducing the tax liability.
Exception 2
If second hand asset is acquired from a person who has not used the asset for the purpose of his business and profession, then this provision cannot be invoked
3.4. Asset re-acquired after sale
If an asset is re-acquired by assessee, which once belonged to him and used for the purpose of his business or profession, after it ceased to be his property because of transfer or otherwise, the actual cost of such asset shall be lower of following:
(a) The actual price for which the asset is re-acquired by him; or
(b) The actual cost when assessee first acquired the asset as reduced by:
• the amount of depreciation actually allowed to him in respect of tax year commencing on April 1, 1986 or any earlier tax year, and
• the amount of depreciation allowable for tax year commencing on or after April 1, 1987 under the Income-tax Act 2025 or under the Income-tax Act 1961, as if it was the only asset in the relevant block till the date of its transfer.
3.5. Sale and leaseback transactions
If assessee transfers an asset, which has been used by him for his business and in respect of which depreciation has been claimed, and subsequently he reacquires it on lease, hire or otherwise from transferee, the Actual cost of such assets to the transferee shall be deemed to be its WDV at the time of transfer.
This practice of sale and lease back transactions has been used as a tax avoidance device to reduce tax liabilities. The assets having nil or nearly nil written-down value are being sold at higher prices, especially where rate of depreciation is 100% to enable the buyer to claim the depreciation at the sale price. This provision puts an end to this practice where an asset is transferred at higher value to claim more depreciation.
The CBDT has clarified
Exception
This provision shall not be applicable if the asset was not qualified for depreciation or it was not used for business or profession.
3.6. Personal property introduced in business
If a building, which was previously the property of the assessee, is brought into use for the purpose of business or profession, the actual cost of such building to the assessee will be its actual cost as reduced by the amount of depreciation, calculated at the rate in force on that day, that would have been allowable had the building been used for the business purposes since the date of its acquisition.
Exception
This provision is not applicable if the personal asset introduced in the business is not a building. Example, this provision is not applicable if assessee brings his personal car for the purpose of business or profession.
3.7. Transfer by holding to subsidiary co. or vice-versa
3.7.1. Transfer of non-depreciable asset
Where holding company transfers any capital asset (on which no depreciation has been claimed) to its 100% owned Indian subsidiary co., or vice-versa, and the transferee company is an Indian company, the actual cost of the capital asset transferred to the transferee company is taken to be the same as it would have been if the transferor company had continued to hold the capital asset for the purposes of its business.
3.7.2. Transfer of block of asset
If holding company transfers any block of assets to its 100% owned Indian subsidiary co. or vice-versa, and the transferee company is an Indian company, the actual cost of the block of assets to the transferee company shall be the written-down value of the block of assets to the transferor company in immediately preceding tax year as reduced by the amount of depreciation actually allowed in relation to the said tax year. For the purposes of computing written-down value, unabsorbed depreciationshall be deemed to have been actually allowed to the transferor.
3.8. Transfer in a scheme of amalgamation
3.8.1. Transfer of non-depreciable asset
Where any capital asset (on which depreciation has not been claimed) has been transferred in a scheme of amalgamation and the amalgamated company is an Indian company, the actual cost of the asset transferred to the amalgamated company is taken to be the same as it would have been if the amalgamating company had continued to hold the capital asset for the purposes of its own business.
3.8.2. Transfer of block of asset
Where any block of asset is transferred in a scheme of amalgamation and the amalgamated company is an Indian company, the actual cost of the block of asset to the amalgamated company shall be its written-down value in the hands of amalgamating company in immediately preceding tax year as reduced by the amount of depreciation actually allowed in relation to the said preceding tax year. For the purposes of computing written-down value, unabsorbed depreciation shall be deemed to have been actually allowed to the transferor.
3.9. Transfer in a scheme of demerger
Where a demerged co. transfers any capital asset to an Indian resulting co., the actual cost of such asset transferred to the resulting co. is taken to be the same as it would have been if demerged co. had continued to hold it for the purposes of its own business. However, such actual cost should not exceed the written-down value of such capital asset in the hands of demerged co.
3.10. Asset acquired by a non-resident outside India
Where a non-resident has acquired an asset outside India and such asset is brought into India for the purposes of his business or profession, the actual cost of such asset to the assessee shall be its actual cost as reduced by the amount of depreciation, calculated at the rate in force, that would have been allowable had the asset been used in India for the said purposes since the date of its acquisition by the assessee.
3.11. Assets acquired under scheme of corporatization
Where any capital asset is acquired by the assessee under a scheme of corporatization of a recognized stock exchange in India, the actual cost of the asset is deemed to be the amount which would have been regarded as the actual cost had there been no such corporatization. The provision applies where scheme of corporatization is approved by the SEBI.
3.12. Cost of acquisition of specified assets
If actual cost of a capital asset has been allowed or is allowable as deduction under Section 46, its actual cost shall be deemed as nil in the hands of such assessee and in all other cases where such asset is acquired or received by way of following mode:
(a) By way of gift or will or an irrevocable trust
(b) Distribution on liquidation of a company
(c) Distribution of asset by HUF to its members on total or partial partition
(d) Transfer by holding co. to its subsidiary co. or vice-versa
(e) Transfer in a scheme of amalgamation or demerger
(f) Transfer on conversion of a firm/proprietary concern into a company
(g) Transfer on conversion of company into LLP.
(h) Transfer in the course of demutualization or corporatization of a recognized stock exchange in India
If any capital asset, in respect of which deduction allowed under section 46, is deemed to be the income of the assessee on using it for non-specified business, the actual cost of such asset to the assessee shall be its actual cost as reduced by an amount equal to the amount of depreciation calculated at the rate in force that would have been allowable had the asset been used for the purposes of business since the date of its acquisition.
3.13. Sale of capital asset as stock-in-trade
If any asset, other than stock-in-trade, becomes the property of assessee in a scheme of amalgamation or partition of HUF or under a gift, will or irrevocable trust and it is sold as stock-in-trade of the business, the actual cost of such asset shall be aggregate of cost of acquisition of such asset to the transferor/donor, cost of improvement and expenses incurred in connection with such transfer.
3.14. Conversion of inventory into capital asset
Where inventory of a business is converted into a capital asset, its fair market value as on the date of its conversion shall be treated as its actual cost.
References
Sunil Synchem v. CIT (1987) 163 ITR 467 (Raj.)
Challapalli Sugar Ltd. v. CIT (1975) 98 ITR 167 (SC)
D & H Secheron Electrodes v. CIT (1981) 132 ITR 1 (MP)
CIT v. Fort Gloster Industries Ltd. [1971] 79 ITR 48 (Cal.)
Challapalli Sugar Ltd. v. CIT (1975) 98 ITR 167 (SC)
CIT v. Food Specilities Ltd. (1982) 136 ITR 203 (Del.)
Kapur Sons & Co. v. CIT [1985] 23 Taxman 66 (Delhi)
CIT v. Hindustan Times Ltd. [1998] 231 ITR 747 (SC).
Rashi Leather (P) Ltd. v. CIT (1999) 105 Taxman 58
CIT v. Bokaro Steel Ltd. (1999) 236 ITR 315 (SC)
Shri Digvijay Cement Co. Ltd. v. CIT (1982) 138 ITR 45 (Guj.)
CIT v. Rohtas Industries Ltd. [1981] 130 ITR 292 (Cal.)
Tuticorin Alkali Chemicals & Fertilizers Ltd. v. CIT [1997] 227 ITR 172 (SC)
CIT v. Karnal Co-operative Sugar Mills Ltd. [2001] 118 Taxman 489 (SC)
CIT v. P.N. Krishna Iyer [1973] 91 ITR 394 (Ker.)
Shashikant Janardan Kulkarni v. ITO [2008] 173 Taxman 116 (Pune)(Mag.)
Circular No. 762, dated February 18, 1998
This article is general information and not tax advice. Provisions change. Confirm your position with a qualified professional before acting.