Depreciation on Used or Second-Hand Vehicles

The trend of trading used cars is very common in India and across the globe. It is certainly a much cheaper option compared to the use of fresh cars. In recent years, the used car sector has made several leaps in growth because of reasons like the demand for lower cost transport and the improvement of vehicle lives. Furthermore, organised traders and e-commerce sites have engaged in drawing their customers to this part of the market. The used car market serves a wide variety of customers, from first-time buyers or those looking to economise to companies wanting to cut costs in fleet expansion.

The owners would be able to recoup a part of their original investment and access some cash for future upgrades or expenditures by getting their used vehicle. They are usually cheaper to buy, depreciate slower, and, in many cases, involve lower insurance rates as well. All parties concerned would have to take a number of steps for a seamless and legally sound transaction, like transfer of ownership, insurance changes, vehicle inspection, fulfillment of documentation requirements, and more.

In India, laws like the Motor Vehicles Act govern the second hand vehicle trade and make certain norms compulsory so as to prevent any legal or financial hassles. With better transparency, increased use of digital ways of authentication, and regulatory focus on regularising transactions, consumer trust and interest in the used car business is steadily increasing.

What is Depreciation?

Depreciation is the systematic continuation of the value of a tangible asset from factors like wear and tear, obsolescence, or the passage of time. Under the Income Tax Act of 1961, some assets for which depreciation can be deducted are those that are business or professional assets, enabling the taxpayer to show depreciation for recording the asset’s gradual loss in value over time.

As specified under Section 32 of the Income Tax Act, 1961, depreciation can be claimed on tangible assets and on intangible assets as well, such as patents and copyrights, wherein assets vis-a-vis buildings, machinery, vehicles, and furniture all should represent complete or in part ownership of the business use for the income. The act specifies different rates of depreciation with each asset.

The expected calculation for depreciation is by the Written Down Value (WDV) method, but companies under the Companies Act may adopt the Straight Line Method (SLM) for their accounting practices. It is a non-cash charge expense and reduces taxable income effectively.

Depreciation on Used / Second-Hand Vehicles

In layman’s terms, we may define depreciation as a reduction in the worth or value of an item due to conditions, such as wear and tear of the item with the passing of time and use. For purposes of tax and accounting, depreciation is considered an item of expense, which, therefore, reduces the taxable income of a business or professional person. It has specific meaning for the use of secondhand vehicles as it affects the claimable amount that can be used as an expense for a given year under the Income Tax Act of 1961.

For business people and professionals, the claim for depreciation on vehicles used or purchased second hand gives a significant tax advantage. It allows for an alleviation of taxable income in the progressive recovery of the investments. However, proper classification of the vehicle, necessary documentation, and the intended use are important in maintaining that the claim is legitimate and in compliance with the provisions of the Income Tax Act, 1961. Understanding the applicable rates and methodology for such calculation makes it possible to optimise the benefit for taxpayers and remain justifiable within the framework of the law.

On the other hand, in the above-mentioned situation, where the used or second-hand vehicle is acquired by a new owner for use in business or professional activity, such new owner shall also be entitled to claim depreciation on that vehicle. Such depreciation is determined by reference to the actual purchase price paid by that new owner and not by reference to the capital cost incurred by the original owner. Therefore, the average depreciation amount will be calculated on the basis of the vehicle’s Written Down Value (WDV) at the time of acquiring it.

Applicability under the Income Tax Act, 1961

According to Section 32 of the Income Tax Act 1961, depreciation on motor vehicles is eligible only if the motor vehicle is wholly or partly owned by the taxpayer. The condition should be that the vehicle is used for business or professional activities. Proper account keeping is necessary keeping subscriptions, registration certificates, and evidence of use.

In the definition of depreciation under the Income Tax Act, 1961, vehicles that are used for personal purposes and have no relation to any business are not eligible for depreciation.

Depreciation rates as per Income Tax Rules:

The depreciation rates on motor vehicles are specified in Appendix I to the Income Tax Rules, 1962. There have been no new depreciation rates for secondhand vehicles from the new vehicles of the same category that were used for bonafide fiduciary or professional purposes. As of the current provisions:

1. No motor vehicles other than hired ones that are in business or professional service are given an annual depreciation of 15 percent.
2. For hire vehicles acquired from 23rd August 2019 to 31st March 2020, annual depreciation is 30 percent.
3. Depreciation rate for a commercial vehicle for hire purchased at designated eligible periods:

The depreciation could vary from 30% to 45% based on acquisition date and condition of use, under the Income Tax Rules, for trucks, lorries, or buses used in hire or transport business to be acquired within the specific eligible government time frame.

The Income Tax Act of 1961 specifies that depreciation can be computed through the Written Down Value (WDV) method. This is carried out in the following manner:

1. Firstly, determine the secondhand value of the purchased vehicle (the paid invoice amount).
2. Use the depreciation rate applicable, like 15% for personal vehicles, not for hire.
3. This amount will be identified for the depreciation claim by the assessee for one year.
4. The WDV in the year after will be the remaining amount on which depreciation will be calculated.

Suppose it has a price tag of Rs. 5,00,000 for a used car and intended for business only use.

The depreciation rate is 15%.

Depreciation of Year 1: Rs. 5,00,000 x 15% = Rs. 75,000.

WDV at the end of 1st Year: Rs. 5,00,000 – 75,000 = Rs. 4,25,000.

Depreciation for 2nd Year: Rs. 4,25,000 x 15% = Rs. 63,750.

WDV at the end of 2nd Year: Rs. 4,25,000 – Rs. 63,750 = Rs. 3,61,250.

This process continues until the WDV reaches a minimal amount.

Important points to be kept in mind:

1. Half Year Rule: In the case of vehicles purchased for and put to use for less than half of a fiscal year, only 50% of the depreciation amount can be claimed.
2. Record Use: Records such as fuel invoices, travel logs, or maintenance documents should be retained that prove business usage, if required for review.
3. GST Implications: Input Tax Credit (ITC) claimed during the purchase of the vehicle under GST generally affects depreciation in respect of income taxes.

Factors Affecting the Depreciation of a Used or Second-Hand Vehicle

The following are some of the factors that cause depreciation in used or second-hand cars:

1. Vehicle Age: Older cars depreciate faster because of wear and tear.
2. Usage and Mileage: Increased mileage leads to a decrease in the worth of the vehicle.
3. Vehicle Condition: Well-maintained cars keep their worth better.
4. Type and Model: Different depreciation rates might apply for popular, fuel-efficient, and luxury models.
5. Ownership History: A single owner would generally be more valuable when reselling the vehicle.
6. Accidents or Damages: A car that has been in an accident is usually worth less.
7. Maintenance Records: Regularly serviced and maintained vehicles tend to appreciate in value.
8. Modifications: Non-standard modifications can bring down resale attractiveness.
9. Market Demand and Supply: Increased demand slows down depreciation, while oversupply hastens it.
10. Fuel Type: They have their differences based on whether petrol, diesel, electric, or hybrid proliferates depreciation rates.
11. Geographic Location: Regional preference and climate influence depreciation as well.
12. Regulatory Changes: Different government regulations, such as emissions and scrappage programs, affect the price of the vehicle.

Tips to Reduce Depreciation on Used or Second-Hand Vehicles

Here are some ways to cut down depreciation that are significant and practical:

1. Follow the manufacturer’s maintenance schedule to keep things up to date.
2. The car should be cleaned and waxed from time to time to maintain the exterior.
3. Drive with care to lessen wear and tear.
4. Replace with only certified parts.
5. Minimise excessive customisation, as personalisation brings down resale value.
6. Keep the mileage low as a great measure to protect value.
7. Maintain a full service history so that potential buyers know of upkeep.
8. Protect the vehicle from blemishes and accidents that may cause loss.
9. Use a garage or covered area to protect your car against sun, rain, and dust.
10. Go for popular models that depreciate slower.
11. Apply anti-rust coatings and paint protection against wear for the bodywork.
12. Always give your insurance a timely update to avoid any incomplete coverage in case of an injury.

Conclusion

Depreciation is, in fact, the death of an otherwise good condition used car, for every Used Car sees depreciation because of usage, age, and market dynamics. In the case of taxpayers using such vehicles for business or professional purposes, depreciation can also be a good deductible expense under the Income Tax Act, 1961. Understanding how depreciation is done and the rates associated therewith, plus the various methods of computation, are vital from the standpoint of financial planning and compliance. With good maintenance, cautious driving, and considered choices such as purchasing models with lower depreciation rates while keeping proper records, depreciation can be controlled. Knowledge of the factors determining depreciation assists in making informed buying and selling choices that would contribute to maximisation of resale value and, consequently, returns on investments. Correct assessment and estimation of depreciation will help in better management of assets and overall cost benefits in the long run for individuals as well as businesses.

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