Tax deduction on depreciable assets

Tax deduction on depreciable assets

The Income Tax Ordinance, 2001, provides a comprehensive framework for calculating tax deductions related to depreciable assets used in business.

Part I of the Third Schedule of the Income Tax Ordinance, 2001, outlines the rates for tax deductions applicable to these assets.

Depreciation rates specified for the purposes of section 22 shall be, —

i.Building (all types).10%
Ii.Furniture (including fittings) and machinery and plant (not otherwise specified), Motor vehicles (all types), ships, technical or professional books.15%
Iii.Computer hardware including printer, monitor and allied items, machinery and equipment used in manufacture of I.T. products, aircrafts and aero engines.30%
Iv.In case of mineral oil concerns the income of which is liable to be computed in accordance with the rules in Part-I of the Fifth Schedule. (b) Offshore platform and production installations.20%
v.A ramp built to provide access to persons with disabilities not exceeding Rs.250,000 each.100%

Below is an explanation of the key provisions of Section 22, which governs depreciation of depreciable assets:

Depreciation Deduction (Section 22):

A person is allowed a deduction for the depreciation of depreciable assets used in their business in a tax year.

The depreciation deduction for a tax year is computed by applying the rates specified in Part I of the Third Schedule to the written down value of the asset at the beginning of the year. However, if a depreciable asset is used in the business for the first time in a tax year starting on or after July 1, 2020, the depreciation deduction is reduced by fifty percent.

If a depreciable asset is used both for deriving income from taxable business and for another use, the deduction is limited to the fair proportional part of the amount that would be allowed if the asset was solely used for taxable business income.

Written Down Value (Section 22(5)):

The written down value of a depreciable asset at the beginning of the tax year is determined as follows:

If the asset was acquired in the tax year, it is the cost of the asset to the person reduced by any initial allowance.

In other cases, it is the cost of the asset to the person reduced by the total depreciation deductions (including any initial allowance) allowed in previous tax years.

It is important to note that when assets are used for tax-exempt business income, depreciation is treated as allowed, and the written down value is adjusted after the exemption period.

Disposal of Depreciable Assets (Section 22(8)):

If a person disposes of a depreciable asset in a tax year, no depreciation deduction is allowed for that year.

If the consideration received on disposal exceeds the written down value of the asset, the excess is taxable as “Income from Business” in that year.

If the consideration received is less than the written down value, the difference is deductible in computing the person’s income under the “Income from Business” head.

For assets used for the first time in a tax year commencing on or after July 1, 2020, a depreciation deduction equal to fifty percent of the rate specified in Part I of the Third Schedule is allowed in the year of disposal.

Depreciable Asset Definitions (Section 22(13)):

The cost of a depreciable asset for a passenger transport vehicle not used for hire cannot exceed two and a half million rupees.

The cost of immovable property or structural improvements does not include the cost of land.

Any asset owned by a leasing company, investment bank, modaraba, scheduled bank, or development finance institution and leased to another person is treated as used in the owner’s business.

When the consideration received on the disposal of immovable property exceeds the cost, the consideration received is considered the cost of the property.

Export or Transfer of Depreciable Assets (Section 22(14)):

When a depreciable asset used in Pakistan is exported or transferred out of Pakistan, it is treated as disposed of at the time of export or transfer for a consideration equal to the cost of the asset.

In summary, Section 22 of the Income Tax Ordinance, 2001, provides a structured framework for calculating depreciation deductions on depreciable assets used in businesses, ensuring that taxation accurately reflects asset usage and disposals. These rules aim to strike a balance between incentivizing investment and preventing misuse of depreciation deductions.