Depreciation Dreams Dashed

The twin losses in quick succession on the depreciation front have put depreciation – aficionados in a sense of gloom. First, in Techno Shares & Stocks, they were told in no uncertain terms that their esoteric arguments on the intangible assets front was far fetched. Second, in Plastiblends, they were told that their gambit to extract maximum deduction u/s 80-IA while postponing the claim for depreciation for later years when the s. 80-IA relief would run out was not going to work.

To be fair to the aficionados, on the first part, the Legislature did lead them up the garden path by promising depreciation on virtually everything under the sun. The draftsman, probably having a moment of “goodwill” towards the taxpayers, drafted the term “intangible assets” to include not only all the known intangible assets like “knowhow, patents, copyrights, trademarks, licences and franchises” but also “any other business or commercial rights of similar nature”. Enthused by the seemingly unlimited scope of the definition, the aficionados set off a flurry of claims – on goodwill, non-compete fees, stock exchange card – there was no stopping them – if it looked intangible, it was depreciable!

The aficionados also displayed a remarkable sense of alacrity. When their argument that a stock exchange card is not a capital asset for purposes of wealth-tax and capital gains was successively thrown out by the Special Bench in Jagan Nath Sanyal 72 ITD 1 (Del) (SB) and R. M. Valliappan 103 ITD 63 (Che) (SB), they quickly recovered their wits and used the same arguments that had been used to decide against them to urge that they were entitled to depreciation. After all, if a stock exchange card is an “asset” liable to wealth-tax and is also a “capital asset” liable for capital gains, then surely it is also an “intangible asset” for purposes of depreciation, they argued.

The perseverance paid up big time and despite a couple of hiccups on the way, they managed to wrest a ruling from the Tribunal in Techno Shares & Stocks 101 TTJ (Mum) 349 that a stock exchange card was indeed an “intangible asset” eligible for depreciation.

There was now no stopping the aficionados. Non-compete fees were held to be an “intangible asset” eligible for depreciation in Real Image Tech 177 TM 80 (Che) and Medicorp Technologies 30 SOT 506 (Che). The Tribunal went on to hold that “the capability to have market value, assignability, transferability, diminution in value, were no more the ‘touch stones’ on which admissibility for depreciation u/s 32 had to be tested”. Goodwill was held to be eligible in Kotak Forex Brokerage Ltd (ITA no. 2692/Mum/2007) while Marketing Rights were held eligible in Sarabhai Zydus Animal Health Ltd (ITA no. 26/ Del of 2005). Even a License for making roads for the government was held eligible in Asoka Info (P) Ltd 123 TTJ 77 (Pune).

However, the euphoria was short-lived because the department discovered an Achilles heel in the definition – the rule of ejusdem generis. Unfortunately, the draftsman, while he had been charitable in giving the definition a wide meaning, made a fatal mistake. He qualified the words “any other business or commercial rights” with the words “of similar nature”. The department seized the advantage and rammed home the point that the intention of the legislature was to grant depreciation only to those intangible assets which looked like intellectual property and not to all intangible assets. Much to the dismay of the aficionados, the argument appealed to the High Court and it held that the term ‘licences’ and ‘any other business or commercial rights’ in s. 32(1)(ii) applied only to intellectual properties. Sadly, whatever may be the money-spinning abilities of a stock exchange card, ‘intellectual property’ it is not!

The aficionados are now running around panic-stricken because while stock exchange cards find themselves in the worst-case scenario (they are liable to wealth-tax, capital gains and still get no depreciation), the million dollar question is how to salvage non-compete fees, goodwill and the other esoteric items from being classified as non-intellectual property assets.

Emboldened by their success in Techno Shares, the department came out with all guns blazing in Plastiblends. The assessees’ had earlier tasted dramatic success in Someshwar Sakhar Kharkhana 177 ITR 443 (Bom) and Mahendra Mills 243 ITR 56 (SC) where their argument that depreciation was an allowance which could not be thrust on them was upheld. A half-hearted attempt to supercede these judgements was made in 1988 by way of deletion of sections 34(1) and 34 (2). This amendment merely neutralized one of the grounds given in the judgment while leaving it still potent. A more serious attempt was made by the Finance Act 2001 which introduced Explanation 5 in s. 32 to provide that depreciation would apply irrespective of whether the assessee had claimed it or not.

Meanwhile, the aficionados’ gambit of extending the principle of Someshwar Sakhar Kharkhana 177 ITR 443 (Bom) and Mahendra Mills 243 ITR 56 (SC) to Chapter VI-A met a stumbling block in Vahid Paper Converters 98 ITD 165 (SB) where the Special Bench ruled that depreciation had to be deducted whilst computing s. 80-IA and other Ch. VI-A deductions even if the same had not been claimed in the regular computation of income.

Down but not out, the aficionados thought that they would have a cakewalk in the High Court. After all, they were armed with the formidable judgement of the Supreme Court in Mahendra Mills where it had been laid down in no uncertain terms that depreciation was optional.

However, the High Court came down heavily on the assessees: “We see no merit in the contentions” it said. “Reliance on Mahendra Mills (supra) is wholly misplaced” it thundered, pointing out that Mahendra Mills had neither considered the scope of deduction under Chapter VI-A nor could it be read to mean that by disclaiming current depreciation the assessee could claim enhanced deduction under any other provision of the Act. The Court also observed tongue-in-cheek that “the assessee is disclaiming depreciation neither with a view to be charitable nor with a view to pay more tax than what is legally payable” but with a view to claiming deduction under section 80-IA at a figure higher than what it would have normally got. It did not mince words in calling the attempt of the aficionados a “device adopted to inflate the profits of eligible business” and thundered that this attempt had to be rejected.

All was, however, not lost for the aficionados. They managed to secure a stunning verdict from the High Court in G. R. Shipping that even a barge lying at the bottom of the ocean throughout the year was still eligible for depreciation. In other words, even an asset which had not been “used” for even a day was eligible for full depreciation. In that case, the Tribunal had, in a more detailed judgement, held that after the introduction of the concept of “block of assets” by the Taxation Laws (Amendment) Act, 1988 w.e.f 1.4.1988, the “user” of individual assets in the block could not be looked at and if there was a ‘block’ in existence, depreciation had to be allowed. Thus in one stroke of the pen, the concept of “active and passive” user of assets painstakingly developed by the department over the past several years became redundant.

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