Establish non-exclusive business use before restricting a deduction
For FY 2025–26 / AY 2026–27, section 38(2) of the Income-tax Act, 1961 addresses specified deductions where a building, machinery, plant or furniture is not exclusively used for business or profession. It provides for a fair proportionate part determined by the Assessing Officer having regard to actual user. This is not a statutory standard percentage. This guide focuses on tangible-asset use evidence and the restriction working; it does not decide every corporate employee-benefit arrangement or imply that idle capacity is automatically non-business use.
Read the applicable text: Income Tax Department: Income-tax Act, 1961, section 38(2) Income Tax Department: earlier-year transition.
Identify the deduction within the statutory scope
The subsection refers to section 30(a)(ii) and (c), section 31(i) and (ii), and section 32(1)(ii). Match the actual deduction and asset instead of reducing every expense in the accounts. Do not import a percentage from another tax provision. The underlying repair, insurance or depreciation deduction must be established first, including any other applicable eligibility conditions. The earlier year's return remains under the 1961 Act rather than the later Act's tax-year numbering.
Build a defensible use record
Collect area plans, machine logs, booking records, asset identifiers and a description of each activity. Choose an allocation measure that explains the actual use being assessed; floor area, hours or output may answer different factual questions. A register showing ownership does not by itself establish the use proportion. State assumptions and unresolved time or space categories instead of automatically assigning them to non-business use.
Respect the statutory determination and corporate facts
A management calculation is supporting evidence, not a guaranteed binding percentage on assessment. The statute expressly refers to the Assessing Officer's fair-proportion determination. Equally, a director's involvement, employee access or an asset being temporarily idle does not alone prove use outside the company's business. Establish the actual business purpose and legal facts before applying any restriction. All examples below assume both the restriction's applicability and the stated fair proportion are independently established.
Separate base deduction from the proportion
Show the correctly computed deduction before section 38(2), the established permitted proportion, allowed amount and restriction. Keep book depreciation distinct from the underlying tax-depreciation computation. Where different assets have different use patterns, preserve their separate calculations rather than averaging percentages without appropriate weights. Do not apply the restriction twice through both the depreciation working and a second business-income adjustment.
Close the evidence and computation bridge
Reconcile asset-level inputs, supporting use records and the final adjustment. If the records only support a range or leave a material gap, resolve that gap rather than presenting an invented exact percentage. This article supplies no depreciation rate, tax-audit clause or ITR row. Its narrower result is a traceable and non-duplicated proportionate working, subject to the actual statutory and assessment facts.
Six worked illustrations
All facts and amounts are fictional. Calculations illustrate the stated assumptions, not a predetermined legal outcome.
Illustrative example 1: Established business-use proportion
Assume otherwise eligible tax depreciation ₹10 lakh and an independently established fair permitted proportion of 80%. Allowed amount is ₹8 lakh and restriction ₹2 lakh. The 80% is an example assumption, not a statutory safe harbour.
Illustrative example 2: Area evidence
Assume the legally relevant established use is 750 of 1,000 square metres, and a covered otherwise eligible ₹4 lakh expense fairly follows that measure. The proportion is 75%, allowed amount ₹3 lakh and restriction ₹1 lakh. First verify that area actually explains the expense and use.
Illustrative example 3: Different assets
Assume deductions of ₹6 lakh at an established 90% proportion and ₹4 lakh at 50%. Allowed amounts are ₹5.4 lakh and ₹2 lakh, total ₹7.4 lakh; total restriction ₹2.6 lakh. A simple unweighted average of 70% would incorrectly give ₹7 lakh on the combined ₹10 lakh base.
Illustrative example 4: Avoid double restriction
An underlying ₹10 lakh deduction has already been reduced by a supported ₹2 lakh restriction to ₹8 lakh. Adding another ₹2 lakh restriction elsewhere would leave only ₹6 lakh, duplicating the same reduction.
Illustrative example 5: Tax base differs from book charge
Assume book depreciation ₹12 lakh, independently computed tax depreciation before this restriction ₹10 lakh and an established 80% permitted proportion. The tax allowance is ₹8 lakh. After reversing the ₹12 lakh book charge, deduct ₹8 lakh; the net adjustment is a ₹4 lakh increase to book profit: add back ₹12 lakh and deduct ₹8 lakh. The ₹2 lakh section 38(2) restriction is already included in that bridge.
Illustrative example 6: Unresolved hours
Records show 700 established business-use hours and 200 established non-business hours out of 1,000 logged hours, leaving 100 unexplained. Those figures are 70%, 20% and 10%. They do not prove that the unexplained 10% belongs automatically to either category; resolve it before stating the final fair proportion.
Ten-step verification table
| Step | Action | Evidence |
|---|---|---|
| 1 | Fix the period | FY 2025–26 / AY 2026–27 under the 1961 Act. |
| 2 | Establish actual use | Business purpose and non-exclusive-use facts. |
| 3 | Match statutory scope | Covered tangible asset and deduction provision. |
| 4 | Compute the base deduction | Eligibility and tax computation independently verified. |
| 5 | Collect evidence of asset use | Area, activity, hours and relevant records. |
| 6 | Select a justified measure | Reason it fairly reflects the actual use. |
| 7 | Preserve assessment context | AO determination distinguished from management evidence. |
| 8 | Calculate asset-wise amounts | Base, proportion, allowance and restriction. |
| 9 | Prevent duplication | One restriction reconciled across workings. |
| 10 | Resolve gaps and close | No invented percentages or unsupported corporate-use assumptions. |
Sixteen practitioner FAQs
1. Does section 38(2) prescribe a universal percentage?
No. It refers to a fair proportion having regard to use.
2. Who does the wording identify as determining that fair part?
The Assessing Officer; management's working supplies evidence rather than a guaranteed outcome.
3. Does every account expense fall within subsection (2)?
No. Match the specified deduction provisions and asset facts.
4. Are intangible assets automatically covered by this tangible-asset guide?
No. This article is confined to its stated building, machinery, plant and furniture scope.
5. Does ownership alone prove exclusive business use?
No. Establish the actual use and purpose.
6. Does temporary idleness automatically prove non-business use?
No. Examine the real facts and business purpose.
7. Does director or employee access automatically establish private use by a company?
No. Do not infer the company's tax treatment from that fact alone.
8. Is floor area always the correct allocator?
No. Explain why it fairly reflects the use and expense concerned.
9. Can machine hours support the calculation?
They may be evidence where relevant and reliable; establish their relationship to the statutory facts.
10. Can an unexplained use category be assigned automatically?
No. Resolve the evidence gap.
11. Can percentages be averaged without weighting?
That may distort deductions with different bases; calculate and reconcile the assets individually.
12. Is book depreciation the base tax allowance?
Not automatically. Compute tax depreciation separately.
13. Can the same restriction appear twice?
No. Reconcile one supported adjustment across schedules.
14. Does passing this use test establish every other deduction condition?
No. Other eligibility and regime conditions remain separate.
15. Does the article supply an ITR field mapping?
No. Verify the actual return field independently where needed.
16. What should the final file demonstrate?
The relevant asset and deduction, actual use, justified proportion, assessment context and one reconciled restriction.
Official sources
Income Tax Department: Income-tax Act, 1961, section 38(2) Income Tax Department: earlier-year transition