The tax aspect of leasing pertain to both income-tax and sales tax. This Section focuses on only those consideration which has a bearing on lease transaction .
Income Tax considerations
Leasing , as finance device , has tax implication for, and offers tax benefit both to, the lessor and the lessee . In fact a significant variable in the choice of leasing is the scope for tax avoidance reduction/deferment of tax liability and sharing tax saving in the event of heavy tax incidence. In a way, leasing provides a convenient technique for transferring the benefits of tax incentives from the purchaser-owner(lessor) to the user (lessee) of the asset/equipment.
The main attraction of a leasing device to the lessor is the deduction of depreciation from his taxable income. The relevant provisions applicable to the computation of the lessor’s income, the tax rates, and so on are summarized as follows.
Deductibility of expenses
While computing the income of lessor from leasing, certain expenses are allowed as a deduction to determine the taxable income.
b)Rent, rates, taxes .repair and insurance of the leased asset where such expenditure is borne by the lessor
c)Amortization of certain preliminary expenses, such as expenditure for preparation of project report, feasibility report, market survey, and so on, legal charges for the drafting of the memorandum of association and article of association, registration expenses, public issue expenses other than on debenture and loans.
d)Interest on borrowed capital
f)All expenses incurred in furtherance of a trade
g)Entertainment expenses subject to prescribed limits
i)Travel expenses as per approved norms.
Depreciation provision are prescribed by the Indian companies Act for accounting purpose and by the Indian Income-tax Act for taxation purpose. The purpose of the provision of depreciation contained in the companies act is the computation of managerial remuneration,dividend payment and disclosure in financial statements. Since leasing companies in India are regulated by the Companies Act, they should provide depreciation assets on written down value(WDV) basis as well as a straight-line basis. It also permits companies to charge depreciation on any other basis provided it has effect of writing 95 percent of the original cost of the asset on the expiry of the specified period and approved by the government.
The Provision of the Income Tax -Act relating to depreciation is contained in Section 32. The section envisages three important condition for allowing depreciation( i) the asset is owned by the assessee (ii)the asset is used by the assessee for the purpose of business and(iii) the asset is in the form of buildings, furniture, machinery and plant including ships, vehicles, books, scientific apparatus, and surgical equipment and so on. The lessor is an equipment lease is the legal owner of the leased asset. It also legally accepted through rulings by courts and appellate tribunals that the leased asset is deemed to be used in the lessor’s business of leasing assets. Therefore,the lessor is eligible to claim depreciation tax shield on depreciation. The option to the leasing companies who jointly own leased assets is to form an association of persons for the purpose of income tax assessment which is eligible to claim depreciation shields as a separate entity of persons. The amount of annual depreciation on an asset is determined by (a)the actual cost of the asset and (b) its classification in the relevant block of assets.
Depreciation is charged with a view simplify the computation not on an individual asset but on a block of assets defined as a group of assets falling within a class of assets, being building machinery, plant or furniture in respect of which the same rate of depreciation is prescribed. Thus, assets which fall within the same class of assets and in respect of which the same percentage. Rate of depreciation has been prescribed irrespective of their nature form one block of assets.
Depreciation is computed at the block -wise rates on the basis of written down value(wdv) method only. Presently, the block-wise rates for plant and machinery are at 25 percent .40 percent and 100 percent. The depreciation allowance on office buildings and furniture and fitting is 10 percent. Where the actual cost of plant and machinery does not exceed rs.5000, the entire cost is allowed to be written in the first year of its use. If assets acquired during a year have been used for a period of less than 180 the days during the year, depreciation on such assets is allowed only 50 percent of the computed depreciation according to the relevant rate.
Apart of from the simplification of the computation of the amount of depreciation,a significant implication of the categorizing assets into blocks is that if an asset falling in a block is sold out,there is no capital gain on terminal depreciation or balancing charge.
The terminal loss is not allowed in the relevant assessment year but is spread over a number of years to be allowed by way of depreciation.