Section 35A of ITA, 1961 : Section 35A: Expenditure On Acquisition Of Patent Rights Or Copyrights

Explanation using Example

Imagine a software company, Tech Innovations Pvt. Ltd., that incurred capital expenditure on acquiring a patent for a unique data encryption algorithm on March 1, 1997. The cost of acquiring the patent rights was INR 1,400,000. The company plans to use these rights over a period of 14 years, which is the useful life of the patent.

As per Section 35A(1) of the Income-tax Act, 1961, Tech Innovations Pvt. Ltd. is eligible to claim a deduction for this capital expenditure. The "relevant previous years" in this case would be the 14 years starting from the year the expenditure was incurred.

The "appropriate fraction" for the deduction each year would be 1/14, since the denominator is the number of relevant previous years.

Therefore, for each of the 14 years, the company can claim a deduction of INR 100,000 (1,400,000/14) from its taxable income, provided the patent rights are used for the business purposes.

If Tech Innovations Pvt. Ltd. decides to sell the patent rights after 7 years for INR 800,000, which is less than the cost remaining unallowed (INR 1,400,000 - INR 700,000 already allowed as deduction = INR 700,000), then as per Section 35A(3), the company can claim a deduction equal to the cost remaining unallowed reduced by the proceeds of the sale in the year of sale. In this case, it would be INR 700,000 - INR 800,000 = INR -100,000, but since it cannot be negative, no further deduction would be allowed, and the sale does not result in any taxable income.

If the sale proceeds were INR 1,500,000, exceeding the cost remaining unallowed, as per Section 35A(4), the excess of INR 100,000 (INR 1,500,000 - INR 1,400,000) would be chargeable to income-tax as income of the business in the year of sale.