ITC on Capital Goods, Depreciation Rules & Income Tax Impact

Capital goods are one of those areas where GST credit suddenly becomes confusing. People understand ITC on inputs and services quite easily, but when it comes to capital goods, the rules start changing:

• 5-year life
• Monthly reversal
• Depreciation restrictions
• Exempt + taxable use
• Rule 43 calculations
• Blocking under Section 17(5)
• Income Tax adjustments

And to add even more twist, Income Tax Act also steps in with a very strict condition:

This is where most people go wrong. This blog keeps things simple so you actually understand every bit.

1. What Exactly Are Capital Goods Under GST?

The definition is very short:

So the key test is:

• Is it used for business?
• Have you capitalised it in your balance sheet?

If yes → It becomes capital goods for GST purposes.

Some common examples:

• Machinery
• Computers & servers
• Vehicles (with conditions)
• Office equipment
• Furniture & fixtures
• AC, UPS, generators
• Lifts, CCTV, security equipment
• Solar systems
• Plant & machinery

Even leased assets capitalised in your books count as capital goods.

2. Capital Goods Eligible for ITC

You can take ITC on almost all capital goods unless blocked by Section 17(5).

Eligible examples:

• Machinery used in factory
• IT infrastructure for employees
• Office furniture
• Computers, laptops, printers
• UPS, networking equipment
• Tools, moulds, dies
• CCTV, security equipment
• Lifts and elevators (if used for business premises)
• Generator sets

3. Capital Goods NOT Eligible for ITC (Blocked ITC Under Section 17(5))

Even if they are capital goods, ITC is blocked on:

• Motor vehicles (<13 seats)
• Construction of building
• Works contract for immovable property
• Personal use assets
• Assets used in exempt supplies
• Membership of clubs, gyms
• Food, catering, employee benefits
• Goods lost, stolen, written-off

Capital goods do NOT get special treatment. If they are blocked, they're blocked.

4. When Capital Goods Are Used Only for Taxable Supplies

This is the easiest case.

Example: You bought machinery for ₹20,00,000 with GST ₹3,60,000.

• Entire GST ₹3,60,000 can be claimed as ITC
• No reversal
• No Rule 43
• No proportionate calculation

Straightforward.

5. When Capital Goods Are Used Only For Exempt Supplies

In this case:

• ITC is NOT allowed at all.
• No question of Rule 43 or reversal.

Example:

• A hospital buys MRI machine (healthcare exempt).
• GST paid = ₹18,00,000
• ITC = not allowed

6. Mixed Use Capital Goods (Very Important)

(Used for both taxable + exempt activities)

This is the real area where GST complications begin.

Example:

You buy a computer server that supports:

• 70% taxable operations
• 30% exempt operations

Now you cannot claim full ITC. You need to apply Rule 43.

7. Rule 43 – The Formula for Capital Goods ITC Reversal

Rule 43 does NOT allow full ITC immediately. You follow these steps:

Step 1 → Take full ITC initially in month of purchase

This goes into A (total ITC).

Step 2 → Determine useful life

Capital goods useful life = 60 months (5 years) for GST.

Step 3 → Monthly reversal

ITC attributable per month = A / 60

Step 4 → Proportionate reversal for exempt supplies

Monthly reversal = (A ÷ 60) × (Exempt turnover ÷ Total turnover)

Reverse this monthly.

Step 5 → At the end of 5 years

No reversal after 60 months.

8. Simple Example of Rule 43

• Capital goods cost = ₹10,00,000
• GST = ₹1,80,000
• You claim full ITC = ₹1,80,000

• Useful life = 60 months
• Monthly ITC = 1,80,000 ÷ 60 = ₹3,000

Now assume exempt turnover ratio = 25%

Monthly reversal = 3,000 × 25% = ₹750

For 60 months, you reverse proportion based on turnover.

This is the logic.

9. What If Capital Goods Are Sold Before 5 Years?

GST says:

Remaining ITC (A × remaining months ÷ 60) vs Output tax on sale

Pay the higher.

10. ITC on Capital Goods & Income Tax Depreciation Rule (Very Important)

This is the area where people make the biggest mistake.

Income Tax Act Section 32 says:

In simple words:

• If you take ITC on GST portion → depreciation is calculated on net value (without GST)
• If you do NOT take ITC → depreciation is calculated on gross value (including GST)

Example 1: Taking ITC

• Machine cost: ₹10,00,000
• GST: ₹1,80,000
• ITC claimed: Yes

Depreciation base = ₹10,00,000 (not 11,80,000)

Example 2: Not taking ITC

• Machine cost: ₹10,00,000
• GST: ₹1,80,000
• ITC claimed: No

Depreciation base = ₹11,80,000

11. Which Option Is Better: ITC or Depreciation?

Let’s compare:

Option 1 → Take ITC

• Benefit: immediate reduction of GST payable
• ITC benefit = ₹1,80,000 (full)

Option 2 → Claim depreciation on GST portion

• Depreciation rate: 15%
• Tax saving = 15% × 1,80,000 = ₹27,000

So taking ITC is ALWAYS better.

Only in few rare cases (exempt activity) depreciation may be better since ITC is not allowed anyway.

12. ITC on Capital Goods in Special Cases

✔ Capital goods under RCM

Example: sponsorship, legal services ITC allowed fully.

✔ Capital goods sent for job work

ITC allowed immediately.

✔ Capital goods purchased before GST (CENVAT/Excise)

Special transitional rules apply.

✔ Capital goods enjoying depreciation for direct taxes

No separate treatment under GST.

13. When Capital Goods Become Blocked Later (Reversal Required)

Example:

• You bought a building lift (ITC claimed)
• Later building is used for personal residence partly.
• Then ITC proportionate reversal is required.

Similarly:

• capital goods used in exempt supply
• capital goods used in personal or non-business use
• capital goods used in construction

All require reversal.

14. ITC on Motor Vehicles (Capital Goods Rules)

Motor vehicles < 13 seats → ITC NOT allowed

Unless used for:

• Transportation of goods
• Passenger transport
• Training
• Further supply (sale)

Motor vehicles > 13 seats → ITC allowed fully.

15. Common Mistakes People Make With Capital Goods ITC

• Treating all assets as inputs (not capital goods)
• Not applying Rule 43
• Not removing GST portion from depreciation
• Taking full ITC when used for exempt supply
• Forgetting 5-year life period
• Not reversing ITC on sale
• Claiming ITC on building construction

16. Practical Tips to Manage Capital Goods ITC

• Maintain separate register for capital goods ITC
• Note down purchase month + 60-month timeline
• Reconcile capital goods with fixed asset register
• Check exempt turnover every month/year
• Match depreciation register with GST ITC records
• Do not mix capital goods with consumables

17. Final Summary

Capital goods ITC is easy at the surface level but the hidden rules make it slightly complex:

• If used fully for taxable supply → take full ITC.
• If used fully for exempt supply → no ITC.
• If mixed use → Rule 43 monthly reversal.
• ITC is based on 60-month useful life.
• No depreciation on GST portion if ITC is taken.

The smartest approach is:

• Take ITC → reduce GST outflow
• Use net value for depreciation
• Keep Rule 43 tracker ready

This avoids disputes, notices, or mismatches.

Also Read: ITC for Banking, NBFC & Financial Institutions (Rule 38)