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Chapter 4

2.2 Tax-allowable depreciation

Instead of accounting depreciation, a business may claim tax-allowable depreciation
to offset against its profits for tax purposes.

 Tax-allowable depreciation is calculated based on the written down value of the
assets (reducing balance or straight line according to the question)

 The total amount of tax-allowable depreciation given over the life of an asset will
equate to its fall in value over the period (cost less scrap proceeds)

 Tax-allowable depreciation is claimed as early as possible

 Tax-allowable depreciation is given for every year of ownership of the asset
except the year of disposal (the tax-allowable depreciation is allowed against
profits and therefore reduces the tax bill – shown as an inflow of tax on the
NPV)

 In the year of disposal a balancing allowance or charge arises instead (tax
equivalent of profit or loss on disposal and allowed against profits)

 Timing of asset purchase is important:

st
Purchase on 1 day of an accounting period – first tax-allowable depreciation
claimed one year later and tax saved one year after that.

Purchase on last day of an accounting period – first tax-allowable depreciation
claimed immediately and tax saved in one year’s time.

Assume unless told otherwise in the question that the asset was purchased on
the first day of an accounting period.

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