DEPRECIATION UNDER SCHEDULE II TO THE COMPANIES ACT,
2013- BY CA MOHIT BHUTERIA
The recent enactment of the Companies Act, 2013 is a dawn of a new era. After
bringing far-reaching changes in various areas, the spectrum of financial
reporting has widened and brings higher responsibilities to those associated
with financial reporting, be it the auditors or the management. One such area is
Depreciation.
THE 2013 ACT VS THE 1956 ACT, AN OVERVIEW:
The Depreciation on fixed asset as per Schedule-II of Companies Act, 2013
became operational from 01/04/2014 vide MCA notification no S.O.902(E) dated
26/03/2014. From the date this Schedule comes into effect, the carrying amount
of the asset as on that date—
(a) shall be depreciated over the remaining useful life of the asset as per this
Schedule;
(b) after retaining the residual value, may be recognised in the opening
balance of retained earnings where the remaining useful life of an asset is nil.
Thus in respect of assets, whose remaining useful life is NIL, there is an option
to charge the carrying amount of asset either to retained earnings or to the
Statement of Profit and Loss.
The table below highlights the key differences:
Particulars
Schedule II to the 2013 Act
Schedule XIV to the 1956
Act
Definition of the term Para 1 of Part A to Schedule Not Defined
“depreciation”,
II of the Companies Act,
“depreciable amount” 2013 defines:
and “useful life”
“depreciation”
as
a
systematic allocation of the
depreciable amount of an
asset over its useful life;
“depreciable amount” of an
asset is the cost of an asset
or other amount substituted
for cost, less its residual
value.
“useful life” of an asset is
the period over which an
asset is expected to be
available for use by an
entity, or the number of
production or similar units
expected to be obtained
from the asset by the entity.
Mode of Depreciation Useful
Life
Schedule
II
regime
lays
i.e As per life of the assets
down (AS 6) or rates prescribed
useful
life
to
compute by Schedule XIV.
depreciation.
Shift
Based Useful
depreciation
lives
have
been
determined on the basis of
single shift. For specified
assets working on double
shift,
depreciation
will
increase by 50% and in
case of triple shift by 100%
proportionately for number
of days used as such.
Asset
costing
less No such Concept
100% Depreciation except
than Rs. 5000
Depreciation
revalued assets
in certain cases
on Entire
charge
to Incremental
depreciation
Statement of Profit and on revalued portion can
Loss.
be
adjusted
revaluation
against
reserve
by
transfer of an equivalent
amount to the Statement
of Profit and Loss based
on the Guidance Note of
the Institute of Chartered
Accountants of India.
Residual life
Residual life not to be more No such concept.
than 5 % of original cost
with exceptions
Component
Schedule II introduced a No such concept.
Approach
new concept to estimate
useful
life
of
each
component in an asset and
depreciate
that
component
specific
over
its
estimated useful life.
DEPRECIATION FOR INTANGIBLE ASSETS:
No separate depreciation rate is prescribed for intangible assets. Rather, for the
time being the same will be governed by notified Accounting Standards. Thus,
guidance from AS-26, “Intangible Assets” needs to be taken to deal with
amortization of intangible assets. However, in case of intangible assets (Toll
Roads) created under ‘Build, Operate and Transfer’, ‘Build, Own, Operate and
Transfer’or any other form of public private partnership route in case of road
projects, amortisation in such cases may be done as follows:(a) Mode of amortisation
Amortisation Rate =
Amortisation Amount
* 100
Cost of Intangible Assets (A)
Amortisation Amount =
Actual Revenue for the year (B)
Projected Revenue from Intangible Asset
(till the end of the concession period) (C)
(b) Meaning of particulars are as follows =
Cost of Intangible Assets (A) = Cost incurred by the company in accordance
with the accounting standards.
Actual Revenue for the year (B) = Actual revenue (Toll Charges) received
during the accounting year.
Projected Revenue from Intangible Asset (C) = Total projected revenue from the
Intangible Assets as provided
to the project lender at the
time of financial closure /
agreement.
USEFUL LIFE
The useful life of an asset shall not ordinarily be different from the useful life
specified in Part C of Schedule II of Companies Act, 2013 and the residual value
of an asset shall not be more than five per cent. of the original cost of the asset.
However, where a company adopts a useful life different from what is specified
in the said Schedule or uses a residual value different from the limit specified
therein, the financial statements shall disclose the same and provide
justification in this behalf duly supported by technical advice.
For an entity using straight line method of depreciation as per Schedule II under
the new Act, useful life has been reduced as compared to Schedule XIV under
the 1956 Act.
A. General plant and machinery from 21 years to 15 years;
B. General furniture and fittings from 15 years to 10 years;
C. Computers from 6 years to 3 years;
D. Buildings other than factory buildings and other than RCC frame
structure from approximately 58 years to 30 years;
Also, useful lives have been prescribed for machinery used in the
telecommunications business, manufacture of steel and non-ferrous metals,
which were not laid down in Schedule XIV of the Companies Act, 1956.
METHODS OF CHARGING DEPRECIATION
The depreciation method used shall reflect the pattern in which the asset’s
future economic benefits are expected to be consumed by the entity. The
depreciable amount of an asset can be allocated on a systematic basis over its
useful life through:
A. straight-line method (SLM),or
B. the diminishing balance method/ Reducing Value Method/ Written Down
Value Method (WDV)
That method is applied consistently from period to period unless there is a
change in the expected pattern of consumption of those future economic
benefits.
In SLM, the amount of annual depreciation is calculated as:
Capitalised Cost-Estimated Residual Value
Estimated Useful Life
In this method, the amount of annual depreciation remains uniform. On the
other hand, in WDV Method, the amount of annual depreciation is calculated
as:
n
1- Estimated Residual Value
Capitalised Cost
Where n= useful life (in years)
For first implementation for assets as on 01/04/2014, capitalized cost will be
substituted by WDV as on 01/04/2014 and estimated useful life with remaining
useful life.
DEPRECIATION TREATMENT AS PER COMPANIES ACT, 2013
Name of the asset: Furniture & Fixtures
Year of
Original
No of
Depreciatio
Net
Residual
Useful
Remaining
Amount
Depreciati
Acquisi
Cost
year
n
Carrying
Value
life
Useful life
to
on
tion
used as
Charged as
Amount
5% of
as per
as on
be
to be
of asset
on
on
as
cost
CA
31/03/
charged
provided
31/03/
31/03/2014
on
2013
2014
to
for
2014
@ 6.33%
31/03
Opening
2014-15
(Sch-XIV
/2014
retain
CA-1956)
earnings/
Statemen
t of Profit
and Loss
on
01/04/
2014
(1)
(2)
(3)
(4)
(5)=2-4
(6)=2*
(7)
(8)
(9)=5-6
5%
2002-
(10)=
(5-6)/8
10,000
11
6,963.00
3,037.00
500
10
0
2,537
10,000
10
6,330.00
3,670.00
500
10
0
3,170
10,000
9
5,697.00
4,303.00
500
10
1
3,803
10,000
8
5,064.00
4,936.00
500
10
2
2,218
03
200304
200405
200506
EFFECT OF CHANGE IN THE RATES OF DEPRECIATION FROM THE 1956 ACT TO 2013 ACT
The following table illustrates the effect of change in the rates of depreciation
from WDV rate of 40% and SLM rate of 16.21% under the 1956 Act, on an asset
cost of Rs.1,000 and having 5% residual value, to a new useful life of 3 years
under the 2013
Act. For determining the WDV rate under the 2013 Act, a
computation would be required to arrive at the rate (63%), which would
depreciate the asset to 95%:
DEPRECIATION CHARGE AND WDV AS PER 1956 ACT
DEPRECIATION CHARGE AND WDV AS PER
2013 ACT
Beginning
Written
Depreciation
Written
Depreciation
Written
Depreciation
Written
Depreciation
of
Down
charge as
Down
charge as
Down
charge as
Down
charge as per
value
per WDV
value
per SLM
value
per WDV
value
SLM Method @
under
Method @
under
Method @
under
Method @
under
31.67%
WDV
40%
SLM
16.21%
WDV
63%
SLM
Method
Method
Method
Method
Year 1
100
400
1000
162
1000
630
1000
317
Year 2
600
240
838
162
370
233
683
317
Year 3
360
144
676
162
137
87
366
316
Year 4
216
86
514
162
50
Year 5
130
52
352
162
Year 6
78
28
190
140
Year 7
50
50
50
EXTRA SHIFT DEPRECIATION
No separate rates have been prescribed for extra shift depreciation. A blanket
statement is provided that the period of time an asset is used in extra shift,
depreciation will increase by 50% in case of double shift working and by 100%
in case of triple shift working.
An illustration showing the impact on single shift, double shift and triple shift
depreciation after the introduction of Companies Act, 2013 is given below:
A Ltd. is using Roll Grinder (falling in category of Plant and Machinery used in
manufacture of non-ferrous metals in Schedule II) in its operation process.
Details are as follows:
Capitalised value of the Roll Grinder
Rs. 5,00,000/-
Useful Life prescribed in Schedule II
40 Years
Residual Value
Rs. 25,000/-
Particulars
Single shift
Double Shift
Triple Shift
Depreciation
Depreciation
Depreciation
Under Schedule XIV
(Rs. 5,00,000)* 4.75%
Rs.23,750
Rs. 37,100
Rs. 51,700
Rs.11,875
Rs.17,813
Rs.23,750
Rs.11,875
Rs. 19,287
Rs.27,950
(Rs. 5,00,000)* 7.42%
(Rs. 5,00,000)* 10.34%
As per the minimum rate
Under Schedule II
(Rs. 5,00,000-Rs. 25,000)*
2.50%
(Rs. 5,00,000-Rs. 25,000)*
3.75%
(Rs. 5,00,000-Rs. 25,000)*
5.00%
Difference (Extra
Depreciation under Schedule
XIV)
COMPONENT APPROACH
Schedule II states that the useful life specified is for whole of the asset.
However, where cost of a part of the asset is significant to total cost of the asset
and the part’s useful life is different from the useful life of the remaining asset,
useful life of that significant part shall be depreciated separately.
This method of breaking a fixed asset into components for depreciation
purposes is known as the ‘component approach’ to compute depreciation.
Companies will now have to estimate the useful life of each such component
(in case it is not provided in Schedule II) and depreciate the cost of that specific
component over the estimated useful life.
To apply the component approach, it is crucial to identify the various significant
parts of an asset.
There are two reasons for identifying the parts:

Depreciation, and

The replacement of parts.
Generally, it is done by looking for items that will require replacement before the
end of the asset's useful life, and to treat these items as separate components.
Upon replacement of a part, the remaining book value of the replaced part is
derecognised and the cost of the new part recognised, irrespective of whether
the replaced part was depreciated separately or not.
There is no minimum requirement for the number of parts of a fixed asset that
should be identified. The number of parts may vary depending on the nature
and the complexity of the fixed asset. Ind AS 16 requires each significant part of
a fixed asset to be depreciated separately. Significant parts which have the
same useful life and depreciation method may be depreciated together.
Additionally, such parts that are individually not significant are combined in the
remainder and are depreciated together.
Componentization requires professional judgment. In many situations, a
company may not have a good understanding of the cost of the individual
components purchased. In that case, the cost of individual components should
be estimated based on reference to:

current market prices (if available),

discussion with experts in valuation, or

use of other reasonable approaches.
It might also be considered necessary to request an expert opinion (for
example, construction experts) in order to determine the parts of a fixed asset.
This will also depend on the size of the organization and whether the
component and related depreciation will have a material effect on the financial
statements.
For instance, the following practices are commonly used to identify the parts of
a building:

Exterior walls

Interior walls

Windows

Roof

Staircase

Elevators

Air condition

Heating system

Water system

Electrical system

Major inspections
The following can also help in identifying components:

Review plant maintenance programs. If the replacement of a component is
significant enough to be listed on maintenance schedule, it may have a
cost that is significant in comparison to the total cost of the asset;

Review historical retirement patterns to evaluate what constitutes a
component;

Analyze major capital expenditures.
However, the component accounting shall be voluntary in respect of the
financial year commencing on or after the 1st April, 2014 and mandatory for
financial statements in respect of financial years commencing on after the 1st
April, 2015.
MAJOR IMPACT
1. The useful life of an asset can be the number of production or similar units
expected to be obtained from the asset. This indicates that a company may be
able to use Units of Production (UOP) method for depreciation, which was
previously prohibited for assets covered under Schedule XIV.
2. The application of component accounting is likely to cause significant
change in accounting for replacement costs. Previously, companies needed to
expense such costs in the year of incurrence. Under the component
accounting, companies will capitalize these costs, with consequent expensing
of net carrying value of the replaced part.
3. In case of revaluation, depreciation will be based on the revalued amount.
Consequently, the ICAI guidance may not apply and full depreciation on the
revalued amount is expected to have significant negative impact on the
statement of profit and loss. This is a major change unnoticed at large. Dividend
distribution and managerial remuneration may be significantly affected.
4. In case of assets with a nil remaining useful life on the date the Schedule II
comes into effect, the transitional provisions require that the carrying amount
may be charged to retained earnings. The word 'shall' has been replaced by
the word 'may' by a beneficial notification which provides scope for charging
the carrying amount in such case to revenue as well. This will be a welcome
relief to companies subject to Minimum Alternate Tax.
5. Overall, many companies may need to charge higher depreciation in the P&L
because of pruning of useful lives as compared to the earlier specified rates.
However, in some cases, the impact will be lower depreciation, i.e. when the
useful lives are much longer compared to the earlier specified rates.
6. The Companies will have to ascertain rates of depreciation for each
individual item of fixed asset as on 01.04.2014 and the rate of depreciation may
vary significantly depending on balance residual life as on the said date. This
will be a very cumbersome exercise and proper maintenance of fixed asset
register will be a pre requirement for the same.
7. Companies also need to assess the impact from implementation of Schedule
II vis a vis depreciation as presently charged and disclose the financial impact
of the same in Financial Statements. Thus for the first year depreciation both as
per Companies Act, 2013 and Companies Act, 1956 needs to be calculated.