Depreciation means the reduction in the value of an asset over time. Companies record depreciation of assets over the period during which they are expected to be used for business operations. This process helps present a true and fair value of assets and profits in financial statements. The Companies Act depreciation rates help businesses calculate their asset values accurately and follow a uniform accounting standard.
The Companies Act 2013 governs depreciation for all registered companies in India. It came into force on 1 April 2014, with Schedule II replacing the old depreciation rates under the Companies Act, 1956. The rule is applicable to all forms of companies, including private, public, and one-person companies. Schedule II of this Act prescribes the useful life and residual value of assets. Companies are required to follow these rules for statutory reporting.
In this blog, we will understand the concept of depreciation in detail, the laws governing it, and its implications for companies.
Legal Framework Under Companies Act: Section 123 and Schedule II
The Companies Act, 2013, provides a structured legal framework for depreciation in India. The following provisions of the Companies Act give detailed information on the matter:
- Section 123 governs dividend declarations and requires companies to charge depreciation before declaring dividends. This provision ensures that dividends come only from real profits. It safeguards shareholders’ interests and prevents capital from being distributed.
- Schedule II defines the useful life of tangible assets, which companies use to calculate depreciation accurately. According to it, companies must depreciate their assets over a specified period to reflect their true value in their accounts. Schedule II also limits the residual value to 5 percent of the asset’s cost. However, companies may adopt a different useful life if they provide proper technical justification.
Earlier, the Companies Act, 1956, governed depreciation using fixed rates for accounting purposes. In contrast, the Companies Act, 2013, focused on the useful life of assets to calculate depreciation. It allowed companies to calculate depreciation based on the expected useful life of assets.
The new approach aligned better with Indian accounting practices and promoted more accurate reporting.
Key Concepts and Definitions Related to Depreciation
The following concepts make it easier to understand the provisions of depreciation as per the Companies Act:
- Depreciable Amount: Depreciable amount is the cost of an asset minus its residual value. This is the total value a company can write off as depreciation.
- Useful Life of an Asset: The Useful life refers to the period over which a company expects an asset to be usable for its business.
- Residual Value: Residual value is the estimated amount an asset will be worth at the end of its useful life.
- Disclosure Requirements: If a company chooses a useful life different from that in Schedule II, it must disclose the technical justification in its financial statements.
Refer to these terms if you are having any difficulty comprehending the laws of the Companies Act. You could also screenshot and share these definitions for future reference.
Methods of Calculating Depreciation Under the Companies Act, 2013
There are two prescribed methods to calculate the depreciation rate as per the Companies Act, 2013. They are:
1. Straight Line Method (SLM)
Under SLM, depreciation is charged evenly over the asset’s useful life. The same amount is deducted each year until the asset reaches its residual value. This method is generally used for assets whose benefits are consistent over time, such as buildings or furniture.
Formula To Calculate SLM: (Cost of Asset – Residual Value) ÷ Useful Life of Asset
2. Written Down Value (WDV)
The WDV method charges depreciation on the asset’s reducing balance. In this case, depreciation decreases each year as the asset’s book value declines. This method is preferred for assets such as machinery or vehicles, which depreciate more in the early years.
Formula To Calculate WDV: [1−(s/c)1/n ]×100
n = useful life of Asset
s = scrap value at the end of the useful life of the asset
c = cost of asset
The choice of depreciation method affects profit, tax liability, and the asset’s book value. SLM results in uniform expenses, while WDV shows higher depreciation in the early years and lower profits.
Note: As per the Companies Act depreciation rates, companies must disclose the method used in their financial statements to ensure transparency.
Useful Lives and Depreciation Rates: Asset Categorization According to Schedule II
The table below presents useful lives and the rate of depreciation as per the Companies Act in detail, as prescribed under Schedule II of the Companies Act, 2013:
| Category of Asset | Useful Life (In Years) | SLM % | WDV % |
| Buildings | 60 | 1.58% | 4.87% |
| Factory Buildings | 30 | 3.17% | 9.50% |
| Fences, wells, tube wells | 5 | 19% | 45.07% |
| Bridges, culverts, bunkers, and similar products | 30 | 3.17% | 9.50% |
| Carpeted Roads: Reinforced Cement Concrete (RCC) | 10 | 9.50% | 25.89% |
| Carpeted Roads: Non-RCC | 5 | 19.00% | 45.07% |
| Non-carpeted roads | 3 | 31.67% | 63.16% |
| General Plant & Machinery | 15 | 6.33% | 18.10% |
| Machinery Used for Cinematograph, Networking equipment, Medical field, and Regenerative Use | 13 | 7.31% | 20.58% |
| Machinery Used In Mines, Field operations, Loggers, Moulds, and factories | 8 | 11.88% | 31.23% |
| Machinery Used In Melting Furnaces and Tunnelling Equipment | 10 | 9.50% | 25.89% |
| Plant and Machinery used in salt works and cranes with a capacity of less than 100 tons | 15 | 6.33% | 18.10% |
| Machinery Used for Tower, Telecom, and Satellites | 18 | 5.28% | 15.33% |
| Plant and Machinery used in the manufacture of the Sinter Plant, Blast Furnace, pharmaceuticals, and heavy-lifting Cranes (more than 100 tons capacity) | 20 | 4.75% | 13.91% |
| Plant and Machinery used in the Wind Power Generation Plant | 22 | 4.32% | 12.73% |
| Machinery and Plant Used for Refineries, Oil and gas assets, Petrochemical Plant, and similar assets | 25 | 3.80% | 11.29% |
| Machinery and Plant Used for Pipelines, Drilling Rig, Gas& water Storage and Distribution, Annealing Furnace, Rolling Mills, Soaking Pit, Scalping, Slitting, and similar assets | 30 | 3.17% | 9.50% |
| Plant and Machinery used in the Electric Distribution Plant, | 35 | 2.71% | 8.20% |
| Plant and Machinery used in the Power Generation Plant, Transmission lines, and the manufacturing of non-ferrous metals | 40 | 2.38% | 7.22% |
| Motorcycles, scooters, and other mopeds | 10 | 9.50% | 25.89% |
| Motor Cars (non-commercial), Buses, Lorries, Taxis | 8 | 11.88% | 31.23% |
| Aircraft or Helicopters | 20 | 4.75% | 13.91% |
| Ships | 25 | 3.80% | 11.29% |
| Railway stocks, excluding the railway | 15 | 6.33% | 18.10% |
| Office Equipment | 5 | 19.00% | 45.07% |
| Electrical Installations and Equipment | 10 | 9.50% | 25.89% |
| Hydraulic works, pipelines, and sluices | 15 | 6.33% | 18.10% |
| Laboratory equipment (General laboratory equipment) | 10 | 9.50% | 25.89% |
| Laboratory equipment (used in educational institutions) | 5 | 19.00% | 45.07% |
| Computers and data processing units (Servers and networks) | 6 | 15.83% | 39.30% |
| Computers and data processing units (devices, such as desktops, laptops, etc.) | 3 | 31.67% | 63.16% |
Note: NESD (No Extra Shift Depreciation) applies to all these tangible assets. It states that companies cannot charge additional depreciation for double or triple shift usage. Depreciation is calculated based only on the asset’s useful life, regardless of the number of shifts operated. This is one of the key changes from the Companies Act, 1956.
Transitional Provisions from the Companies Act, 1956 to 2013
The Companies Act, 2013, introduced new depreciation rules from 1 April 2014. Companies had to adjust existing assets to comply with Schedule II. These transitional provisions remain important for audits and reviews. The following points are important to note for regular practitioners:
- Treatment of Existing Assets as on 1 April 2014: Companies had to reassess all fixed assets held on 1 April 2014. They needed to determine the remaining useful life in accordance with Schedule II. Companies will now charge depreciation based on this reassessed life.
- Remaining Useful Life Rules: If an asset still had remaining useful life, companies depreciated the carrying amount over the remaining period. This ensured alignment with the new, useful-life-based approach.
- Adjustment to Retained Earnings When Useful Life Is Nil: If the remaining useful life of an asset was nil, companies had to adjust the carrying amount directly against retained earnings. They did not charge depreciation through the profit and loss account. This was a one-time adjustment.
- Practical Implications for Audit and Accounts: Auditors must verify asset life reassessment and retained earnings adjustments. Incorrect treatment can lead to misstatement of profits. Proper documentation remains critical during statutory audits.
Proper application of the new rules ensures accurate opening balances and audit compliance.
Common Mistakes and Compliance Issues
Many companies face compliance issues due to incorrect application of depreciation rules under the Companies Act, 2013. Ensure to avoid the following mistakes:
- Incorrect Application of Depreciation Methods: Some companies apply SLM and WDV inconsistently across similar assets. Others change the method without proper approval or disclosure. This leads to unreliable financial reporting.
- Ignoring the NESD Requirement: A common mistake is charging extra depreciation for double or triple shifts. Schedule II follows the NESD principle and does not allow extra shift depreciation.
- Wrong Classification of Assets: Incorrect asset classification results in the application of the wrong useful life. This directly affects depreciation and distorts asset values in the books.
- Failure to Disclose Useful Life Deviations: When companies adopt a useful life different from Schedule II, they often fail to disclose the justification for it. This lack of disclosure can attract audit qualifications and regulatory scrutiny.
Avoiding these common errors helps maintain accurate financial reporting. Careful compliance reduces audit objections and regulatory exposure.
Frequently Asked Questions
Under the Companies Act, 2013, companies charge depreciation using either the Straight Line Method (SLM) or the Written Down Value (WDV). In SLM, companies apply the same depreciation amount each year over the asset’s useful life, creating a uniform annual expense. In WDV, companies charge depreciation on the asset’s reducing book value, resulting in higher depreciation in the early years and lower depreciation in later years.
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