Expert Advisory Committee
ICAI-Expert Advisory Committee
Options:

1.5       Query

 

Charging of depreciation at rates higher than those prescribed

u/s 205 of the Companies Act, 1956

 1.The Accounting Policy followed by a Government Company, regarding depreciation, appearing in its Annual Report for the year 1983-84, reads as under:

            “Fixed assets other than land are being depreciated on straight line basis at rates which are not less than the rates referred to in Section 205 (2) of the Companies Act 1956. Leasehold land is being depreciated over the lease period.”

 

2.Accordingly, the company has been charging depreciation on various fixed assets on straight line method at the following rates:

           

(1)

Factory building

5%

(2)

Flats

2 ½ %

(3)

Building & Quarters

2 ½ %

(4)

Furniture & Fittings

10%

(5)

Staff Cars (including imported cars)

20%

(6)

Cycles

20%

(7)

Scooters & Motors cycles

33 1/3 %

(8)

Air-conditioners, fans, Typewriters & machinery

12 ½ %

(9)

Plant & Machinery

10%

(10)

Factory equipment

20%

(11)

Vegetable oil tank

6 2/3 %

(12)

Lab Equipment

20%

(13)

Fire fighting equipment

10%

(14)

Generating set

12 ½ %

(15)

Partitions

33 1/3%

(16)

Land Leasehold

Over the lease period

(17)

Electric fittings

10%

(18)

Water drainage

10%

(19)

Roads & culverts

2 ½ %

3. The auditor of the company in his report for the year 1983-84, has commented on  the aforesaid depreciation policy as under:

 

“Fixed assets other than land are being depreciated on straight line basis at rates which are not less than the rates referred to in Section 205 (2) of the Companies Act. The rates at which the depreciation is being charged are mentioned in note no. D.6.The rates at which the depreciation is charged are far in excess of rates derived from those prescribed in the Income-tax Act. The effect of excess depreciation charged consistently since previous years on the profit of the Corporation and written down value of the assets, has not been ascertained.”

 

4.The management of the company commented on the above remarks of the auditors as below:

 

“The Management is adopting a consistent policy in providing for depreciation and the rates adopted will not be excessive over the whole life of the assets”.

 

5.In this connection the querist has drawn the attention of the Expert Advisory Committee to paras 13 and 15 of Accounting Standard 6 on ‘Depreciation Accounting’ issued by the Institute of Chartered Accountants of India, which read:

 

“13. Where the management’s estimate of the useful life of an asset of the enterprise is shorter than that envisaged under the provisions of the relevant statute, the depreciation provision is appropriately computed by applying a higher rate.”

 

“15. The method of depreciation is applied consistently to provide comparability of the results of the operations of the enterprise from period to period.”

    

6. The querist has also mentioned that the company has been consistently charging the above rates of depreciation from 1968 onward and total amount of depreciation for the whole company works out to approximately Rs. 50 lakhs against a pre-tax profit of Rs. 60 crores i.e. even less than 1%. The querist is therefore of the view that the amount involved is also not material enough to warrant a qualification.

           

7.The querist has sought the opinion of the Expert Advisory Committee as to whether the policy followed by the company with regard to depreciation is in order and, if not, what should be done to rectify the situation.

 

                                                                 Opinion                                               December 31, 1985

 

 1.  The Committee notes that, besides the recommendation contained in AS-6 on Depreciation Accounting, which has been referred by the querist and reproduced in para 5 of the query, the Research Committee has also stated in its note on ‘Provision for Depreciation’ *that “in arriving at the rates which depreciation should be provided, the company must consider the true commercial depreciation i.e. the rate which is adequate to write off the asset over its normal working life. If the rate so arrived at is higher than the rates prescribed under Section 350 or Section 205(2), the company should provide depreciation at such higher rate but if the rate so arrived at is lower than the rate mentioned in [these] sections, then the company should provide depreciation at the rates mentioned in those sections since these represent the minimum rates of depreciation to be provided.”

 

2. On the basis of the above, the Committee is of the opinion that it would be permissible for a company to follow a policy whereby the rates of depreciation are higher than those prescribed under section 205 of the Companies Act 1956, provided such rates are based on sound commercial and technical considerations. In such a case, the auditor should broadly satisfy himself that the aforesaid is actually a fact. Since the determination of commercial life of an asset is a technical matter, the decision of the Board of Directors is normally accepted by the auditor unless he has reason to believe that such decision is grossly incorrect.

_______________________ 

_____________________________________

* Compendium of Guidance Notes (1985) page 26