DEPRECIATION 

 

 

Depreciation effectively provides you with a deduction for capital expenditure, where capital expenditure is not normally deductible.   Depreciation is an allowance that acknowledges the fact your business assets eventually wear out or become out of date, even though you routinely maintain and repair them.   For tax purposes, the reduced value of an asset is recognised by allowing a deduction against income for the depreciation of that asset from the time it is used in a business until it is sold, disposed of or discarded.   The end result is that the cost of the asset will be written off over its useful life.   Once the whole cost price of the asset has been written off, no further deduction is allowed. 

 

MAIN FEATURES OF DEPRECIATION LAW
Depreciation deductions are now a statutory right and it is mandatory for you to make depreciation deductions each year, unless you elect that particular assets are not to be treated as depreciable assets.
You may only claim a depreciation deduction once the asset is owned by you and is used or available for use in deriving your gross income or in carrying on a business that aims to generate your gross income
Depreciation rates are set by the Inland Revenue Department.   However you are able to apply for a higher or lower special depreciation rate if you can establish that the general rate is not suitable for your particular circumstances.
Depreciation is calculated according to the number of months in an income year you own and use the asset.   A daily basis applies to certain assets used in the petroleum industry.
You may not claim depreciation in the year you dispose of any asset, unless that asset is a building.
Expenditure for repairs and maintenance can be claimed as a deduction through business accounts.   Anything more than repairs or maintenance is capital expenditure and is not deductible, but will be subject to normal depreciation rules.
Both straight line and diminishing value methods are available for calculating depreciation on most assets and you are able to switch freely between the two.
Subject to certain rules, assets costing $200 or less can be written off in the year of purchase or creation.
Gains on sale or disposal must be recognised in the year of sale.   Losses on sales of depreciable assets, other than buildings, are deductible in the year of sale.
There are restrictions on the depreciation deductions that can be made to depreciable assets transferred between associated parties.
As from 1 April 1997, only those companies that are 100% commonly owned and that choose to consolidate will be able to transfer assets within the group at the assets adjusted tax value.   Wholly owned companies who do not form a consolidated group are required to transfer assets at market value and recover or claim a loss of depreciation as applicable.
You can apply to write off the residual value of any depreciable asset that you no longer use to derive gross income.
Some assets cannot be depreciated for income tax purposes either because they are specifically exempted (e.g. land, trading stock) or they do not reduce in value over time (e.g. Lotto Franchise fees).  

 

ELECTING NOT TO DEPRECIATE

Although it is mandatory for you to claim a depreciation allowance, there can be instances where you may not want to.   If you do not want to claim depreciation on an asset, and you want to avoid the situation whereby you end up paying tax on depreciation recovered , you should elect not to treat the asset as a depreciable asset. 

You are not permitted to pick and choose the years in which you depreciate an asset.   However, if an asset periodically will be and then wonít be used in your business (such as a residential building that is temporarily let), you may choose whether or not to depreciate the asset in respect to each period.  

If you elect not to depreciate your asset, it will no longer be a depreciable asset and the depreciation recovery or loss on sale provisions will not apply to it.  

 

ASSETS THAT DO NOT DEPRECIATE

Some assets do not depreciate for tax purposes.   These assets include:

Assets that you have elected to treat as not depreciable.
Trading stock
Land (except for buildings, fixtures or land improvements)
Financial arrangements under the accrual rules
Intangible assets e.g. goodwill
Low value assets (costing less than $200) that are written off on full on acquisition
An asset whose cost is allowed as a deduction under some other tax provision
An asset which does not decline in economic value because of compensation for loss or damage.  

 

WHO CAN CLAIM DEPRECIATION

A depreciation deduction for a particular asset is only allowed once you own the asset and it is used or available for use in deriving your gross income or in carrying on a business that aims to generate your gross income.   Therefore to claim a depreciation deduction for an asset, you must:

Own it, or
Lease it under a specified lease,
Be buying it under a hire purchase agreement.  

 

COST OF ASSETS FOR DEPRECIATION PURPOSES

Generally, the cost of an asset is the consideration paid by the purchaser, that is, the market value, and this principle applies to associated persons.   If you inherit depreciable assets, there can be no depreciation for cost price, because there has been no cost to you. 

For income tax purposes a deduction is not ordinarily available for expenses incurred in acquiring a capital asset.   This includes any duties paid when purchasing business assets, legal fees charged by solicitors, real estate agent fees for property purchases etc.   However, this type of expenditure may be added to the cost of the asset purchased when calculating depreciation on that asset. 

The depreciation you calculate each year is deducted from the value of your asset.   The remaining value of your asset is called the assetís adjusted tax value (or written down value)

   

GST AND DEPRECIATION

If you are registered for Goods and Service Tax (GST) you can generally claim a credit for the GST part of an assetís cost price.   You calculate depreciation on the GST exclusive price of the asset. 

If you are not registered for GST, you base your depreciation on the actual price you pay for an asset, including GST. 

 

DEPRECIATION METHODS

There are two ways you can account for depreciation on your assets;  as an individual asset or as part of a group or pool of assets.   

Diminishing Value Basis

If you choose to calculate depreciation on individual assets then you can choose either the diminishing value (DV) method or the straight line method.   If you decide to group your assets then you must use the diminishing value method. 

The DV method means that depreciation is calculated each year by using a constant percentage of the assetís adjusted tax value.  The DV method means that your depreciation deduction will progressively reduce each year.   

For example office equipment cost $10,000 and the diminishing value depreciation rate is 33%DV

  Adjusted Tax Value at beginning of Year Depreciation
Year 1 10000 3300
Year 2 6700 2211
Year 3 4489 1481

 

Straight Line Basis

Under the straight line method an asset depreciates every year by the same amount, which is a percentage of its original cost price.  

For the same asset as in the above example, using the equivalent straight line depreciation rate of 24%, the depreciation is caqlculated as follows:

  Adjusted Tax Value at beginning of Year Depreciation
Year 1 10000 2400
Year 2 7600 2400
Year 3 5200 2400

Pool Method

The pool method allows a number of low-value assets to be grouped together (or pooled) and depreciated.   Buildings cannot be pooled.

 

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