Depreciation claim in case of Charitable Trusts or Institutions

Section 32 of the Income Tax Act, 1961 provides for the depreciation allowance to the assessee subject to the following two conditions:

• The assessee should be the owner of the asset; and
• The assessee should put to use the asset for the purposes of business or profession.

However, in the case of charitable trusts or institutions, it is not possible to satisfy the second condition “put to use for purposes of business or profession” as the trusts are generally not engaged in any business or profession. Thus, there is no relevance of section 32 from the point of view of charitable trusts or institutions. Therefore, a question arises whether the charitable organisations eligible for depreciation or not under the Income Tax Act, 1961. This article will answer this question in accordance with the existing provisions of the Income Tax Act, 1961.

Allowability of Depreciation as ‘Application of Income’

Section 11(1)(a) of the Income Tax Act, 1961 reads as follows:

In simple words, the above clause (a) provides for exemption to a charitable or religious trust to the extent income derived from the property held under trust is applied for charitable or religious purposes. Therefore, a charitable/religious trust or institution is required to apply its income for the objects or activities (primary or ancillary) of the trust or institution. 

The word “Applied” is construed to include not only the revenue expenditure but also capital expenditure. Thus, if a trust or institution acquires a capital asset like building or furniture, it can legitimately claim 100% deduction of such capital expenditure as application against its income. The claim for purchase of a capital asset shall qualify as “Application” for deriving exemption under section 11.

Therefore, a question naturally arises that can depreciation be claimed on any such capital asset by a trust where it has already claim 100% deduction for such asset while calculating its total taxable income. This question is important as allowing depreciation on such asset will lead to double deduction of the same amount. Let us try to understand it with an example:

Example: Jeevan Atma Trust purchases laptop of Rs. 1 Lakh for use of such laptop for administrative purposes of the trust. Donation received during the year by the trust Rs. 150,000. Depreciation rate on laptop 60%.

Solution: According to the Income Tax Act, the trust needs to apply at least 85% of the income and accumulate the surplus income up to 15% for its purposes to be utilized in future without paying any income tax. Thus, in this case, the Jeevan Atma Trust is required to utilize 85% of 150,000 i.e. Rs. 127,500 and accumulate the balance Rs. 22,500.

Jeevan Atma Trust claims as follows:

Income during the year:                                                      Rs. 150,000

Less: Capital Expenditure:                                                  Rs. 100,000

Less: Depreciation @ 60% of Rs. 100,000                          Rs. 60,000

               Total Income                                                             Rs. Nil                (as 100% income applied)

You can see in the above calculation that Jeevan Atma Trust is claiming deduction of Rs. 160,000 against capital expenditure of Rs. 100,000 and is able to meet the threshold of 85% due to double deduction owing to depreciation as “Application”. 

This has led to litigations in the past and the courts in various judgements allowed the claim of deduction in respect of capital expenditure as well as depreciation in the favour of the assesses. This controversy has been put to rest by the Government by making amendment through Finance Act 2014 with effect from 01-04-2015.

The amendment read as follows:

The above amendment has put a rest to the controversy regarding claim of depreciation as “Application of Income”. According to the section 11(6), Post amendment, the trust has either a choice to claim the entire capital expenditure as an application of income or to claim depreciation as application of income.

If any charitable/ religious trust has claimed the entire capital expenditure as application of income, it will not be allowed to claim depreciation on such asset again as application of income.

Section 11(6) prospective or retrospective??

 A question also arises whether section 11(6) has a retrospective or a prospective effect because the section includes the words “in the same or any other previous year”. Thus, the intention of the law makers is to give a retrospective effect to the above amendment.

In this regard it should be noted that the above amendment has a prospective effect. Therefore, if any capital asset was acquired prior to 01-04-2015 and claimed as application of income prior to 01-04-2015, the depreciation claim in respect of such capital asset shall be allowed even after 01-04-2015 notwithstanding the fact that the entire asset was claimed as application earlier. This view has been upheld in the various cases as follows:

• Commissioner of Income Tax vs. Rajasthan and Gujarati Charitable Foundation (2018) 402 ITR 441 (SC)
• Commissioner of Income Tax (Exemptions) vs. Mahima Shiksha Samiti (2019) 414 ITR 673 (Raj.)

What is the basis of depreciation on trusts & other institutions under section 11?

As already discussed above, Section 32 of the Income Tax Act, 1932 has no relevance for depreciation in the case of charitable trusts or institutions as section 32 talks of depreciation where the asset is “put to use for purposes of business or profession”.

It is evident that in the case of charitable trusts or institutions, the asset is used primarily for charitable or religious purposes and the wear and tear takes place in the asset on account of use “other than for purposes of business or profession.” Therefore, a question arises as “What is the basis of depreciation in case of charitable trusts & institutions?”

Majority of courts have recognized the fact that in the case of charitable trusts or institutions, depreciation is allowable under the commercial sense and not as per section 32 of the Income Tax Act. But it is also an evident fact that the term ‘commercial sense’ is not defined anywhere in the Income Tax Act. You may refer CBDT circular no. 5-P (LXX-6) of 1968 dated 19.06.1968 where the circular states as below:

The above discussion makes it clear that the charitable trusts or institutions are eligible to claim depreciation on capital assets being put to use by them for their charitable activities. But still the question that “What will be the basis/ rate of depreciation?” is not clear.

In this regard since the Income Tax Act is silent, the charitable trusts or institutions are applying the depreciation rates as per Rule-5 to the Income Tax Rules, 1962. But there is no bar if the trust or institution applies any other rates based on useful life of the asset. Therefore, the charitable trusts or institutions have option of either adopting rates in accordance with Rule-5 to the Income Tax Rules or calculated as per the useful life of the asset.

You may refer the following judgements in support of the above opinion:

• CIT vs. Institute of Banking Personnel Selection (IBPS) (2003) 264 ITR 110 (Bom)
• Deputy Director of IT (Exemptions) vs. Asi Sankara Trust (2012) 143 TTJ 0234

Reporting of Depreciation Claim in Audit Report of Charitable Trusts or Institutions

With effect from A.Y. 2023-24, the CBDT has made major changes in the audit report of charitable trusts or institutions by introducing a new audit form in Form No. 10BB and making existing Form No. 10B more elaborate.

Clause 31 of New Audit form 10BB/ Clause 44 of amended Form No. 10B reads as follows:

“Whether there is any claim of depreciation or otherwise has been made in terms of Explanation 1 to clause (23c) of section 10 or sub-section (6) of section 11 in respect of any asset, acquisition of which has been claimed as application of income and the amount of such depreciation?”

In case the answer to the above question is “yes,” the amount of such depreciation must be reported by the auditor in Form 10BB/ Form 10B, as the case may be. We have already discussed that no double deduction shall be allowed to a charitable trust or institution for acquisition of capital asset as well as depreciation on such asset as application towards charitable or religious objects of the trust or institution.

According to Technical Guide issued by the ICAI in respect of audit under section 12A/ 10(23C)

• Clause 31/ Clause 44 emphasizes that the auditor should ensure that the auditee has not claimed double deduction in respect of any asset by claiming the cost of acquisition as application in the year of purchase and depreciation in the same or subsequent year.

• Accordingly, the auditor should examine the current and past income tax computations and income tax returns of the auditee, to check whether the auditee is claiming either depreciation on fixed assets or cost of fixed assets as application of income.

• The auditor may also check whether the auditee has been using hybrid method of claiming depreciation or cost of asset for different classes of fixed assets. For example, the auditee may be claiming depreciation on all fixed assets excluding immovable property as application of income whereas he may be claiming cost of immovable property as application of income. The auditor may also obtain necessary management representation in this regard.

About Author: The above article has been contributed by CA Naveen Goyal who has an experience of more than 16 years in the field of direct taxation and indirect taxation with specialisation in taxation of NGOs. He can be reached at admin@taxwink.com

Disclaimer: The above article is meant only for educational purposes. Taxwink is not responsible for any loss or damage caused to any person on the basis of use of the above information. Readers are requested to consult a professional before placing any reliance on the above article.