Depreciation and taxation. Most of the economies around the world allows depreciation as tax deductible expenditure while calculating taxable income annually is also termed as tax shield or depreciation tax shield I will explain you in detail what is traction with an example in the following slides. tax authorities do allow depreciation as tax deductible expenditure at the same time. There stipulates SS class kind of assets on which depreciation expenditure would be allowed as tax deductibles. Assets example are tangible assets like property, vehicles buildings, as well as intangible assets such as computer software and patterns. depreciation must be associated with an asset used in business or income generating activity, or to have an expected lifespan for more than a year.

Other conditions may also affect the ability of reputation to be deductible including but not limited to duration of ownership of the assets, whether an asset was used to build capital improvements used depreciation tax shield is most applicable in asset intensive industries, where there are large amounts of fixed assets that can be depreciated. Conversely, a service business may not have or have very few fixed assets. So it will not have a material amount of depreciation to employ as a tax shield. Anyone planning to use depreciation tax shield should consider use of accelerated method of depreciation for example, DDB method of depreciation. This approach allows taxpayer to recognize a large amount of depreciation as taxable expense during the first few years of the useful life of the fixed assets and less depreciation later in each life by using excellent method or DDB method. For example, a taxpayer can defer the recognition of taxable income until later years, thereby deferring the payment of income taxes to the government.

We will see an example where depreciation tax impact is assessed over years under various methods of depreciation How tax shield is calculated. Let's look at the simple example. Suppose your total depreciation on all qualifying assets for the year is $100,000. And your average tax rate applicable to your organization or if your individual is 35% just an assumption so your tax shield for the year would be hundred thousand multiplied by your tax rate which is 35% which will lead you to actually love $35,000 still confuse Don't worry, let's look at same example in more elaborate way. There are two scenarios here. One would be where we will be claiming hundred thousand dollars depreciation as test deductible expenditure versus where we will not have such deduction what would be our tax liability under these two instances or scenarios.

As you can see, we are deducting hundred thousand as depreciation tax deductible and our net taxable income under scenario one where we are claiming that this is an expenditure is 400,000 where we are not claiming it is same amount 500 thousand dollars. So, obviously the taxable income is less your tax would be less. So, in the first instance where we are claiming depreciation, the income tax liability would be $140,000. Whereas the scenario where we are not claiming the depreciation as tax deductible, the tax liability is more which is 170 5000. If you take the difference of these two tax liabilities where we are claiming the depreciation expenditure and we are not claiming is exactly the amount of tax shield which we have calculated earlier which is 35,000. So, 170 5000 minus 140 thousand is 35,000, which is our tax shield.

So can multiply the depreciation amount with the tax rate and you'll get your tax shield easily. in next lecture, I'll be discussing a detailed example where I'll be going through various methods of depreciation and we'll be calculating tax impact and tax shield on or various years of assets. So I'll be taking an example of straight line method EDB method and DB method as I said before, If you are excellent at Metro depreciation your depreciation tax shield would be higher in earlier years of your useful life of the assets. We'll be seeing that in action within a practical example in next lecture. Thank you for watching.