Special provision for computation of capital gains in case of depreciable assets.

74(1)

Irrespective of anything contained in section 2(101), for a capital asset forming part of a block of assets on which depreciation has been allowed under this Act or under the Income-tax Act, 1961 or under the Indian Income-tax Act, 1922, the provisions of sections 72 and 73 shall be subject to the provisions of sub-sections (2), (3) and (4).

74(2)

If, during the tax year, the full value of consideration received or accruing for the transfer of one or more assets in a block of assets exceeds the total of the following:

• (a) expenditure incurred wholly and exclusively for such transfer;
• (b) the written-down value of the block of assets at the start of the tax year; and
• (c) the actual cost of any asset falling within the block of assets acquired during the tax year, such excess shall be deemed to be capital gains arising from the transfer of short-term capital assets.

74(3)

If any block of assets ceases to exist for the reason that all the assets in that block are transferred during the tax year, then,––

• (a) the cost of acquisition of the block of assets shall be the written down value of the block of assets at the beginning of the tax year, as increased by the actual cost of any asset falling within that block of assets, acquired by the assessee during the tax year; and
• (b) the income received or accruing as a result of such transfer or transfers shall be deemed to be short-term capital gains.

Explanation

Section Summary:

This section deals with the computation of capital gains for depreciable assets that are part of a "block of assets." It provides specific rules for calculating capital gains when such assets are transferred, ensuring that the gains are treated as short-term capital gains under certain conditions. The section overrides the general provisions of sections 72 and 73 for depreciable assets.

Key Changes:

1. Treatment of Capital Gains: The section introduces a special provision for calculating capital gains on depreciable assets, treating any excess from the transfer of such assets as short-term capital gains, regardless of the holding period.
2. Block of Assets: The concept of a "block of assets" is central to this section. It groups assets of the same nature (e.g., machinery, buildings) for depreciation purposes, simplifying calculations when assets are transferred.
3. Ceasing of Block of Assets: If all assets in a block are transferred during the tax year, the entire block is considered to have ceased to exist, and the income from such transfers is treated as short-term capital gains.

Practical Implications:

1. Taxpayers with Depreciable Assets: Taxpayers who own depreciable assets (e.g., machinery, equipment, buildings) must calculate capital gains differently under this section. Any gains exceeding the written-down value and other specified costs will be treated as short-term capital gains, which are typically taxed at a higher rate than long-term capital gains.
2. Businesses: Businesses that frequently transfer depreciable assets need to carefully track the written-down value of their block of assets and ensure compliance with the new rules to avoid unexpected tax liabilities.
3. Compliance Complexity: The calculation of capital gains under this section requires detailed records of the written-down value, acquisition costs, and transfer expenses, increasing compliance complexity.

Critical Concepts:

1. Block of Assets: A group of assets of the same nature (e.g., machinery, buildings) that are depreciated together. The written-down value of the block is calculated collectively, not individually.
2. Written-Down Value (WDV): The value of the block of assets at the beginning of the tax year, after accounting for depreciation.
3. Short-Term Capital Gains: Gains from the transfer of assets held for a short period (typically less than 36 months for most assets). These gains are taxed at ordinary income tax rates.
4. Ceasing of Block: If all assets in a block are transferred, the block is considered to have ceased to exist, and the income from such transfers is treated as short-term capital gains.

Compliance Steps:

1. Maintain Records: Keep detailed records of the written-down value of the block of assets at the start of the tax year, the actual cost of any new assets acquired during the year, and expenses related to the transfer of assets.
2. Calculate Capital Gains: For each transfer, calculate the capital gains by comparing the full value of consideration received with the sum of:
   • Transfer expenses,
   • Written-down value at the start of the year, and
   • Cost of any new assets acquired during the year.
3. Report Gains: Report any excess as short-term capital gains in the tax return.

Examples:

1. Example 1: A business has a block of machinery with a written-down value of ₹10 lakh at the start of the year. During the year, it sells some machinery for ₹15 lakh, incurring ₹1 lakh in transfer expenses. The capital gain is calculated as:

   • Full value of consideration: ₹15 lakh
   • Less: Transfer expenses (₹1 lakh) + WDV (₹10 lakh) = ₹11 lakh
   • Capital gain: ₹15 lakh - ₹11 lakh = ₹4 lakh (treated as short-term capital gains).

2. Example 2: A business transfers all assets in a block of machinery during the year. The WDV at the start of the year was ₹10 lakh, and no new assets were acquired. The income from the transfer is ₹15 lakh. The entire ₹15 lakh is treated as short-term capital gains, as the block of assets has ceased to exist.

This section ensures that gains from depreciable assets are taxed appropriately, particularly when assets are transferred frequently or in bulk.