A demerger does not automatically reset tax cost
For FY 2025–26 / AY 2026–27, section 43(1), Explanation 7A of the Income-tax Act, 1961 preserves the actual cost that would have applied had the demerged company continued to hold the transferred capital asset, where the resulting company is an Indian company. Its proviso caps that actual cost at the asset’s WDV in the demerged company’s hands. A scheme valuation or accounting allocation is not by itself the resulting company’s depreciation cost.
Read the applicable text: Income-tax Act, 1961: sections 32 and 43, including Explanation 7A and demerger WDV rules.
Prove the transaction and the transferred population
Collect the scheme, operative dates and asset schedules, and verify the applicable tax definition of demerger. Check the Indian-company condition rather than relying on a group chart alone. Identify exactly which assets transferred and which stayed; a transfer of an undertaking is not permission to copy the entire predecessor tax register.
Keep asset cost and block WDV separate
Explanation 7A is an actual-cost rule with an asset-WDV ceiling. Section 43(6), Explanations 2A and 2B separately address the demerged company’s block reduction and the resulting company’s transferred-asset WDV. Explanation 2A reduces the demerged company’s immediately preceding previous-year block WDV by the WDV of assets transferred pursuant to the demerger; keep that reference distinct from the resulting company’s immediately-before-transfer measure. The latter refers to the transferred assets’ WDV immediately before the demerger. Preserve the statutory measures and timing in separate columns; one unlabelled net balance cannot prove every part of the bridge.
Use supported tax inputs
Reconcile historical cost adjustments, tax depreciation and relevant operative orders. Book carrying amounts, fair values and standalone tax cost can differ. Where an asset sits in a pooled block, document the supported transferred-asset WDV analysis instead of inventing a book-value ratio. The examples use fictional assumed asset-level continuity amounts and WDV solely to illustrate the cap comparison. They do not independently verify an actual asset history or a method of allocating pooled-block WDV; a real computation requires that separate evidence.
Do not derive the annual allowance from this comparison alone
The transfer-year depreciation computation, including the applicable section 32 aggregate restriction and days-of-use allocation, is separate. Later additions and disposals also need their own treatment. Do not mix this working with shareholders’ share-cost apportionment, merger expense amortisation or GST ITC-02 asset ratios, each of which addresses another statutory question.
Close both sides of the handover
Reconcile transferred and retained assets, tax basis, book values and scheme identifiers. Preserve each company’s working and the explanation for differences. These references concern the stated 1961 Act return period; they do not mechanically substitute Income-tax Act, 2025 tax-year numbering.
Six worked illustrations
All facts and amounts are fictional. Calculations illustrate the stated assumptions, not a predetermined legal outcome.
Illustrative example 1: The WDV ceiling binds
Assume the continuing actual-cost measure is ₹100 lakh and transferred asset WDV is ₹64 lakh. Explanation 7A limits the compared cost to ₹64 lakh. A ₹110 lakh book allocation is ₹46 lakh above that amount; it does not establish a fresh tax uplift.
Illustrative example 2: Tax WDV differs from book value
The assumed continuing actual-cost measure is ₹35 lakh and asset WDV is ₹21 lakh. The cap gives ₹21 lakh. An accounting carrying amount of ₹26 lakh exceeds that result by ₹5 lakh; being below historical actual cost does not itself make that book figure the tax basis.
Illustrative example 3: Equal measures
The supported continuing-cost measure and WDV are both ₹28 lakh. The result is ₹28 lakh. Equality does not remove the need to establish a qualifying demerger, asset identity and the Indian resulting-company condition.
Illustrative example 4: Compare assets individually
Asset A has assumed measures ₹70 lakh and ₹45 lakh; B has ₹30 lakh and ₹20 lakh. Their capped amounts are ₹45 lakh and ₹20 lakh, totalling ₹65 lakh. A scheme book allocation totalling ₹90 lakh exceeds that result by ₹25 lakh.
Illustrative example 5: Separate transferred and retained assets
The supported immediately-pre-demerger transferred-asset WDV is ₹18 lakh and retained-asset WDV in the working is ₹42 lakh, totalling ₹60 lakh. Copying all ₹60 lakh into the resulting company would include ₹42 lakh of retained assets. Reconcile each company’s actual block computation under the applicable provisions separately.
Illustrative example 6: Correct an input once
An asset’s assumed continuity amount is ₹50 lakh. A draft uses WDV ₹32 lakh and selects ₹32 lakh. An operative correction establishes the relevant WDV as ₹29 lakh. The revised comparison gives ₹29 lakh, a ₹3 lakh reduction. Retain the correction evidence and review any consequential filed-return changes.
Ten-step verification table
| Step | Action | Evidence |
|---|---|---|
| 1 | Verify tax demerger scope | Scheme and definition analysis. |
| 2 | Confirm the resulting company | Indian-company evidence. |
| 3 | Map transferred assets | Asset identifiers and scheme schedules. |
| 4 | Separate retained property | Predecessor asset population reconciliation. |
| 5 | Reconstruct continuing actual cost | Historical tax-cost adjustments. |
| 6 | Establish supported asset WDV | Depreciation records and operative orders. |
| 7 | Apply the Explanation 7A ceiling | Separate asset comparisons. |
| 8 | Reconcile block measures | Section 43(6), Explanations 2A and 2B working. |
| 9 | Compute annual depreciation separately | Section 32 and transfer-year use evidence. |
| 10 | Approve both company records | Book-to-tax differences and handover sign-off. |
Sixteen practitioner FAQs
1. Does scheme fair value automatically become tax cost?
No. Apply the statutory continuity and ceiling rules.
2. Which proviso creates the asset-WDV cap?
The proviso to section 43(1), Explanation 7A.
3. Must the resulting company be Indian for this rule?
Yes, that condition is stated in the Explanation.
4. Is every business transfer a tax demerger?
No. Verify the applicable definition and actual scheme.
5. Are actual cost and block WDV interchangeable?
No. Keep their separate statutory measures visible.
6. Which provisions address block WDV?
Section 43(6), Explanations 2A and 2B address the relevant demerger adjustments.
7. What timing does Explanation 2B identify?
The transferred assets’ WDV immediately before the demerger.
8. Can a book-value ratio simply be assumed?
No. Support the relevant tax-basis computation.
9. Can the whole predecessor register be copied?
Only the transferred population belongs in the transfer bridge.
10. Does a nil or low WDV revive through book revaluation?
Not merely because a higher book amount is recorded.
11. Does this comparison establish annual depreciation?
No. Apply section 32 and the remaining relevant rules separately.
12. Is this shareholders’ share-cost allocation?
No. That is a separate statutory computation.
13. Is this the GST ITC-02 ratio?
No. Do not import that distinct tax mechanism into this bridge.
14. What if an operative order changes WDV?
Trace the supported correction through both relevant workings.
15. Are example WDV inputs prescribed allocations?
No. They are fictional assumed inputs, not independently verified tax histories or prescribed allocation methods.
16. Which period is addressed?
FY 2025–26 / AY 2026–27 under the Income-tax Act, 1961.
Official sources
Income-tax Act, 1961: sections 32 and 43, including Explanation 7A and demerger WDV rules