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CA. Anand Eriwal


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Finance Act, 2021: Amendment to Erase Goodwill from Block!

Print Document  30 March 2021

Introduction

 

Several amendments were proposed by Finance Bill 2021 ("FB 2021"). One of the most significant proposal that was introduced by FB 2021 was relating to non-allowability of depreciation on goodwill. This proposal brought several changes in numerous sections of the Income-tax Act, 1961 ("Act"). Accordingly, FB 2021 made changes to Sections 2(11), 32(1),50 and 55 of the Act. However, there was no change in Written Down Value ("WDV") u/s 43(6) of the Act.

 

So how to provide depreciation on intangibles, when goodwill is already included in the block? On 23 March 2021, Lok Sabha proposed several amendments to FB 2021, which were then enacted to Finance Act, 2021 post assent of President of India, on 28 March 2021.

 

In this article, amendments made by FB 2021 surrounding depreciation on goodwill and related aspects have been discussed at length. Further, the amendments as per Finance Act, 2021 in relation to erasing goodwill from the block have been analysed.

 

Proposed Amendments brought, originally by [1]Finance Bill 2021

 

Under the Act, depreciation is allowed u/s 32 of the Act. Section 32 allows depreciation in case of any block of assets on written down value at a prescribed percentage.

 

1. Change in definition of block of assets

 

Block of assets is defined u/s 2(11) of the Act as group of assets falling within class of assets and comprises of tangible and intangible assets, in respect of which same rate of depreciation is prescribed.

 

FB 2021 proposes to change the definition of block of assets such that goodwill of a business/ profession shall not be included in intangible assets.

 

Thus, goodwill of a business or profession would no more form part of block of assets.

 

2. Amendment in definition of asset and no depreciation on goodwill

a) Section 32 pertaining to depreciation provides that depreciation shall be allowed in respect of tangible assets and intangible assets. Similar to the amendment made u/s 2(11), good will of a business or profession is proposed to be excluded from intangible assets. Thus, good will of a business or profession would not be eligible to for depreciation u/s 32(1) of the Act.

 

b) Section 32 allows depreciation on assets. The definition of asset for the purpose of Section 32 of the Act is provided in Explanation 3 to Section 32(1) of the Act. Similar to the amendment made u/s 2(11) and in Section 32(1), now good will of a busines or profession is proposed to be excluded from definition of assets and consequently no depreciation u/s 32(1) of the Act, in case of goodwill of a business or profession.

 

3) Amendment in Section 50 of the Act relating to special provisions pertaining to computation of capital gains in case of depreciable assets

 

Section 50 of the Act provides for manner of computation of short-term capital gains in certain situation in case of depreciable assets.

 

FB 2021 proposes to add a proviso to Section 50(2) of the Act. The new proviso reads as under:

 

[2]"Provided that in a case where goodwill of a business or profession forms part of a block of asset for the assessment year beginning on the 1st day of April, 2020 and depreciation thereon has been obtained by the assessee under the Act, the written down value of that block of asset and short-term capital gain, if any, shall be determined in such manner as may be prescribed.".

 

Thus, in case of a goodwill of a business or profession, if it is part of block of assets for Assessment Year ('AY') 2020-21 onwards and deprecation u/s 32 of the Act has been claimed on the said goodwill, then the written down value of that block and short-term capital gains would be computed in accordance with Income-tax Rules, which are yet to be prescribed.

 

4) Amendment in Section 55 of the Act relating to meaning of certain terms

 

Section 55 of the Act defines certain terms such as cost of acquisition, cost of improvement etc. Section 55 has been amended in relation to goodwill of a business or profession, to provide that:

 

a) In case goodwill of a business or profession, is purchased from previous owner, the cost of acquisition shall be the purchase price

 

b) In case of certain specific cases specified u/s 49(1) of the Act, such as cases where goodwill has been acquired by the way of gift, will etc by the tax payer and the previous owner had acquired it by way of purchase, then the cost of acquisition shall be the purchase price

 

c) In all other cases other than 3(a) and 3(b) above, the cost of acquisition of goodwill would be considered as Nil.

 

FB 2021, introduced a new proviso which is reproduced below:

 

[3]"Provided that where the capital asset, being goodwill of a business or profession, in respect of which a deduction on account of depreciation under sub-section (1) of section 32 has been obtained by the assessee in any previous year preceding the previous year relevant to the assessment year commencing on or after the 1st day of April, 2021, the provisions of sub-clauses (i) and (ii) shall apply with the modification that the total amount of depreciation obtained by the assessee under sub-section (1) of section 32 before the assessment year commencing on the 1st day of April, 2021 shall be reduced from the amount of purchase price;".

 

In case any assessee, has claimed depreciation on goodwill u/s 32(1) in any assessment years prior to AY 2021-22, then in that situation total deprecation claimed u/s 32(1) prior to AY 2021-22 would be reduced from the purchase price as mentioned above and revised purchase price would be considered accordingly for the purpose of computation of cost of acquisition u/s 55 of the Act.

 

All these amendments would be applicable from AY 2021-22 onwards, including amendments by Finance Act 2021.

 

Missing link in Finance Bill 2021

 

Under the Act, depreciation is not provided on individual assets, instead it is provided on block of assets. This is in accordance with definition of block of assets — which defines block of assets as group of assets comprising of tangible assets and intangible assets in respect of which same percentage of depreciation is prescribed.

 

Depreciation rates are prescribed in Appendix 1 to Income-tax Rules. Part B of the said Appendix prescribes a uniform rate of depreciation being 25% in case of know-how, patents, copyrights, trademarks, licences, franchises or any other business or commercial rights of similar nature.

 

Thus, all the intangible assets are generally clubbed together for the purpose of computing depreciation under the Act since all of them have a uniform depreciation rate of 25%. Goodwill, if any purchased by the assessee, is also clubbed with other intangible assets, this is because the individual assets lose its identity under the Act.

 

Though depreciation on goodwill will not be allowed, but how to deal with a situation, where the assessee has goodwill along with other intangible assets such as copyrights, trademarks etc. in its block of assets under the Act. So obviously, these intangible assets must have been clubbed together with goodwill in the same block of intangibles. So, the question is how to exclude value of goodwill from block of assets, when goodwill had already lost its identity and is forming part of the block of intangible assets. This was a missing link in Finance Bill 2021.

 

Removal of missing link by Finance Act 2021

 

The above missing link is now introduced via amendment in Section 43, by the Finance Act 2021. Section 43 of the Act provides definition of certain terms relevant to computation of income from profits and gains of business or profession. Section 43(6) of the Act therein defines the term "written down value". Section 43(6)(c) of the Act specifically defines written down value in respect of block of assets. It provides that the opening written down value of the block of assets (i.e., As on 1st day of the previous year) would be adjusted for the following: -

 

1) Increased by the Actual cost of asset acquired during the previous year in the same block

2) Reduced by the sale consideration in respect of asset sold during the previous year within that block

 

It may be noted that depreciation is generally reduced in order to arrive at the closing written down value of block of assets (this will become opening written down value of the next assessment year).

 

Finance Act 2021, further proposes to make amendment in Section 43(6)(c)

 

[4]"as further adjusted by,— (A) the increase or the reduction referred to in item (i), not being increase on account of acquisition of goodwill of a business or profession; (B) the reduction by an amount which is equal to the actual cost of the goodwill falling within that block as decreased by— (a) the amount of depreciation actually allowed to the assessee under this Act or under the corresponding provisions of the Indian Income-tax Act, 1922 for such goodwill in respect of any previous year relevant to the assessment year commencing before the 1st day of April, 1988; and (b) the amount of depreciation that would have been allowable to the assessee for such goodwill for any assessment year commencing on or after the 1st day of April, 1988 as if the goodwill was the only asset in the relevant block of assets, in respect of the previous year relevant to the assessment year commencing on the 1st day of April 2021, in a case where the goodwill of a business or profession was part of the block of assets on which depreciation was obtained by the assessee for the immediate preceding previous year, so, however, that the amount of such reduction does not exceed the written down value.".

 

Section 43(6) of the Act is amended to provide following adjustments with respect to goodwill: -

 

a) Generally, WDV of the asset is increased u/s 43(6) of the Act by the amount of cost of asset acquired in the same block. However, now it has been provided that, increase on account of goodwill of a business or profession would not be considered and added to the WDV of the asset u/s 43(6) of the Act.

 

b) Actual Cost of goodwill in the block would be now reduced from the block in order to calculate the closing WDV of block.

 

However, before reducing the actual cost of goodwill, a reduction adjustment of depreciation claimed by the assessee in earlier years, would be made, assuming that goodwill was the only asset in the block of asset. Thus, depreciation claimed by the assessee in all the earlier years, would be reduced from the cost of goodwill and that reduced cost will then be considered as a negative adjustment for the purpose of calculating the closing WDV of block of assets.

 

a) It is further clarified that while computing the WDV for the assessment year 2021-22, if the depreciation was claimed on the goodwill forming part of the block of assets in the immediately preceding previous year, the amount of reduction calculated in this section should not exceed the WDV of the block of assets.

 

This would cover those situations, wherein in case the reduction adjustment as calculated in (b) above is more than the WDV of the block. So, whenever the actual cost of goodwill as reduced by the depreciation claimed in earlier years on goodwill (assuming that goodwill was the only asset in that block) is more than the WDV, then the reduction adjustment would be restricted to WDV of the block of asset. This will imply that the block of asset for intangibles (in which goodwill was included) would now be reduced to Nil. This is illustrated by way of example given below:

 

Example: Information on block of assets pertaining to ABC Private Limited is given below:

 

Know-how

Rs 50 Crs

Good will

Rs 80 Crs

Patents

Rs 25 Crs

Franchises

Rs 50 Crs

Trade marks

Rs 45 Crs

 

The above assets were acquired in June 2017. ABC Private Limited sold Know for Rs 80 Crs and Patents for Rs 60 Crs in June 2019. You are required to compute depreciation for AY 2021-22 and closing WDV after considering all the amendments as per Finance Act, 2021.

 

Computation of Depreciation

 

Block of assets of intangibles acquired in FY 2017-18

Rs 250 crs (50+80+25+50+ 45)

Less: Depreciation @ 25% for AY 2018-19

Rs 62.5 crs (250*25%)

WDV as on 31st March 2018

Rs 187.50 crs (250-62.5)

Less sale consideration of Know-how and patents

Rs 140 crs (80+60)

Less Depreciation @ 25% for AY 2019-20

Rs 11.88 Crs (187.50-140) *25%

WDV as on 31st March 2019

Rs 35.62 Crs (187.50-140-11.88)

Less Depreciation @ 25% for AY 2020-21

Rs 8.91 Crs (35.62*25%)

WDV as on 31st March 2020

Rs 26.71 Crs (35.62-8.91)

Less Adjustment on account of goodwill in accordance with amendment as per Finance Act 2021

Rs 26.71 Crs (Refer Working Note, below for detailed calculation)

WDV

Nil

 

Depreciation for AY 2021-22 would be Nil since WDV is Nil

 

Working Note: Calculation of Adjustment on account of goodwill in accordance with amendment as per Finance Act 2021

 

Cost of goodwill assuming goodwill is only asset in the block of intangibles = Rs 80 Crs

 

Less Depreciation @ 25% for AY 2018-19 = Rs 20 Crs (80*25%)

 

Less Depreciation @ 25% for AY 2019-20 = Rs 15 Crs (80-20) *25%

 

Less Depreciation @ 25% for AY 2020-21 = Rs 11.25 Crs (80-20-15) *25%

 

Reduced cost of goodwill as per amendment = Rs 33.75 Crs (80-20-15-11.25)

 

However, WDV as on 31st March 2020 in respect of intangible assets is 26.71 Crs and Thus, the reduced cost of goodwill would be restricted to WDV i.e., Rs 26.71 Crs, and consequently WDV would be Nil. This is in accordance with the provisions of Section 43(6)(c)(ii) of the Act, as amended by Finance Act, 2021.

 

About the Author:

 

CA. Anand Eriwal is a qualified Chartered Accountant. He completed his Bachelor of Commerce from the University of Mumbai. He is a law graduate from the University of Mumbai. He secured highest marks in taxation at K.C. Law College, Mumbai

He cleared all the exams conducted by American Institute of Certified Public Accountants.

He has more than 15 years of experience in direct taxation, litigation and international tax. He has experience in heading direct tax function in the Industry and had also worked with renowned Big 4s.

He also teaches taxation subject to management and commerce graduates. He is regular in contributing articles for professionals at different websites.

 

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Disclaimer: The views expressed in this article are personal of the author and do not represent any legal opinion. No reliance must be placed by anyone on these views for making any decisions.



[[1]] Finance Bill 2021 is now enacted as Finance Act 2021.  However, in this article separate distinction is being made between proposals by Finance Bill 2021 and additional amendments as per Finance Act 2021 to bring in comparison and understand what proposals were missed out by Finance Bill 2021.

[[2]]This is text of the proviso to Section 50(2) as proposed by FB 2021, now enacted as part of Finance Act 2021

[[3]] Proviso to Section 55(2)(a) as per Finance Bill 2021 now enacted as Finance Act 2021

[[4]] Additional Text in Section 43(6)(c)(ii) as introduced by Finance Act 2021


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