What are Preliminary Expenses?

ll expenditures incurred before a business is initiated i.e., cost incurred before the commencement of operations in a business, is known as preliminary expenses. It is assumed to last long. Any costs for making a business run are a long-term expenditure and not qualified for only one analysis period. So it is offered as an asset and reported off over the period.

What is a preliminary expense?

All expenditures incurred before a business is initiated, i.e., costs incurred before business operations, are preliminary expenses. The fictional assets that are penned off every year from the earnings earned by the business are examples of preliminary expenses.
Some other examples before the incorporation of the business operation are as follows:

• Any government and court-related fees
• Professional fees of the lawyers, Chartered Accountants, etc.
• Stamp duty for the registration purposes
• Printing fees for marketing and advertisement

What are the conditions for amortization of preliminary expense?

Amortization of preliminary expenses incurred before incorporating a business, developing a current business, placing up a fresh unit, etc., is qualified to be amortized following the provisions under section 35D of the Income Tax Act, 1961.

Preliminary expense that is incurred in association with the following:

• Drafting of viability reports, assignment reports, demand survey notifications, engineering service reports
• Legal expenses for preparing necessary contracts to carry out business
• Legal charges for drafting Memorandum of Association and Articles of Association
• Expenses for printing the documents mentioned above
• Expenses incurred for reporting the company with the ROC
• Underwriting execution, brokerage, and expenses paid in connection with the issuance of shares and debentures or issue of the prospectus
• Any other expenses as prescribed can not be deducted under any other section.

What is the extent of deduction?

The deduction authorised shall be more inferior of genuine expense incurred or:

• 5% of the total expense of a project 
• 5% of assets employed- appropriate to a company 
• The amount computed above shall be allowed as a deduction equally for 5 years.

In the circumstance of a merger or a demerger, the merged company of a consequent company will be permitted to amortize the remaining share of initial costs over the remaining years.

Are preliminary expenses assets or liabilities?

Preliminary expenses are the expenditures incurred before the organization's enrollment. These expenditures are generally connected to incorporation formalities such as legal expenses, registration costs, MOA and AOA expenses, etc. While preparing the accounts as per the running situation concept is assumed to last long. Any costs for making a business run are a long-term expenditure and not qualified for only one analysis period. So it is offered as an asset and reported off over the period.

Moreover, It is considered that business initiates only after incorporation. Therefore, it cannot assess those costs in profit/loss of company as it will generate the precise profitability figure and may deceive different stakeholders in taking material decisions.