|
Query No. 35
Subject:
Depreciation on additions to fixed assets.1
A. Facts of the Case
1. A Central Government undertaking is engaged in refining and manufacturing of
petroleum products as well as a few petrochemical products. The total investment
so far made by the company is around Rs. 975 crore and the total turnover for
the year 2004-05 is Rs. 4992 crore. The company is making profit consistently
and the profit after tax for the year 2004-05 is Rs. 478 crore.
2. During the year 2004-05, the company has capitalised Rs. 84.12 lakh as
additional processing facilities attached to its crude distillation unit (CDU),
which increases the value of the products by converting intermediaries to high
speed diesel (HSD). On capitalisation, the company has charged the depreciation
at the rate which is applicable to the existing main unit, i.e., the CDU. As per
the querist, the company is following the depreciation rates as per Schedule XIV
to the Companies Act, 1956.
3. The querist has stated that while conducting the audit for the year 2004-05,
the government auditors raised an audit observation which suggested that the
depreciation should have been charged on this addition over the remaining useful
life of the main asset and not at the normal rate of depreciation as followed by
the company. While discussing with the government auditors, the company pointed
out that the company is following the said depreciation method consistently,
which also complies with paragraph 9 of Accounting Standard (AS) 6,
‘Depreciation Accounting’, issued by the Institute of Chartered Accountants of
India.
B. Query
4. The querist has sought the opinion of the Expert Advisory Committee on the
issue as to whether the method of depreciation being followed by the company as
stated in paragraph 2 above is as per the generally accepted accounting
principles.
C. Points considered by the Committee
5. The Committee notes paragraphs 9 and 24 of AS 6 as reproduced below:
“9. Any addition or extension to an existing asset which is of a capital nature
and which becomes an integral part of the existing asset is depreciated over the
remaining useful life of that asset. As a practical measure, however,
depreciation is sometimes provided on such addition or extension at the rate
which is applied to an existing asset. Any addition or extension which retains a
separate identity and is capable of being used after the existing asset is
disposed of,
is depreciated independently on the basis of an estimate of its own useful
life.”
“24. Any addition or extension which becomes an integral part of the
existing asset should be depreciated over the remaining useful life of that
asset. The depreciation on such addition or extension may also be provided at
the rate applied to the existing asset. Where an addition or extension retains a
separate identity and is capable of being used after the existing asset is
disposed of, depreciation should be provided independently on the basis of an
estimate of its own useful life.”
6. From the above, the Committee is of the view that in case the additional
processing facility added to the CDU is capable of being identified separately
as an asset that can be used even after the CDU is disposed of, the additional
processing facility should be depreciated independently on the basis of an
estimate of its own useful life. However, if such additional processing facility
becomes an integral part of the CDU, it would be conceptually correct to
depreciate its cost over the remaining useful life of the CDU. The Committee,
however, notes that AS 6 permits, as a practical measure, the use of the rate of
depreciation which is applied to the existing asset, in this case the CDU, for
depreciating the additional processing facility.
D. Opinion
7. On the basis of the above, the Committee is of the opinion that the rate of
depreciation which is being used for depreciating CDU, would be appropriate for
depreciating additional processing facility subject to the considerations stated
in paragraph 6 above.
1Opinion finalised by the Committee on 25.1.2006
|