4. TDS on Income of Non-Resident (Sec. 195):-
Any person responsible for paying to non-resident, not being a company, or to a foreign company, any interest or any sum chargeable under this Act (Other than salary) shall at the time of credit of such income to the account of the payee or at the time of payment thereof in cash or by the issue of a cheque or draft or by any other mode, whichever is earlier, deduct income-tax thereon at the rates in force.
The meaning of the word ‗interest‘ is very wide and would include interest on unpaid purchase price payable in any manner which would include any means of irrevocable letter of credit. Interest is not part of purchase price and is assessable as interest. Failure to deduct tax on such interest payable outside India shall not entitle the assessee to claim deduction of interest. Sec. 2(28A) defining ―interest‖ does not include the discounting charges on discounting of Bills of Exchange.
Example:- X Company discounted its export sales bills with a company in Singapore and received a payment net of discounting charges. The Assessing Officer disallowed such expenses under Sec. 40(a)(i), for not deducting tax at source under Sec. 195. As the discounting charges cannot be analogous to interest expenses, the obligation to deduct tax under Sec. 195 would not arise and the X Company cannot be denied deduction of such expenses.
Sec. 40(a)(ia) of the Income Tax Act,1961 emphasis on that expenditure covered under mentioned TDS sections paid to resident and debited Profit & Loss Account will not be allowed as deduction while computing the income under the head ―Profit and Gains of Business or Profession‖, if :-
a) Tax has not been deducted at source,
b) Tax deducted at source and the same is not remitted, or
c) If expenditure is debited and tax deducted at source during the previous year, tax is not remitted within the time-limits mentioned in section 200 such expenditure will be allowed as deduction in the year of remittance of the tax.
The following payments are covered under Section 40(a)(ia):
a) Interest U/s 194A
b) Commission or brokerage U/s 194H
c) Professional or Technical Fee U/s 194J and
d) Contractors & Sub Contractors U/s 194C
The provisions of the above mentioned TDS sections require that tax has to be deducted at source when amount is paid or credited to the account of the Payee, whichever is earlier. When the amount is credited to suspense account or any account, by whatever name called, then it is treated as amount credited to the account of the payee and tax has to be deducted at source. Hence, tax has to be deducted at source even on provisions made in the books of account to which TDS provisions are applicable.
Other important points:
a) Most of the assesses book the bills only at the time of payment of the bills.
b) They deduct tax at source only when the bill is booked, i.e., at the time of payment.
c) The assessee applies TDS rates applicable for the Financial Year in which the payments are made and not the rates applicable for the Financial Year in which the provision is made as the payments are made in the subsequent Financial Year.
d) Due to the procedure followed in case of points a, b and c, payments have to be made against which provisions are made on 31st March XXXX and are pending and TDS is not deducted at source.
e) Some payments relating to the expenses provided on 31st March XXXX are made in the month of May and June XXXX and the TDS is remitted in the month of June and July XXXX and attracts interest provisions.
f) So, care must be taken in matching the TDS remittances against the payments made and ensure that they are remitted within the prescribed time-limit or else the same must be disallowed and disclosed in the tax audit report as required.
In order to rationalise the provisions of disallowance on account of non-deduction of tax from the payments made to a resident payee, Sec. 40(a)(ia) has been amended to provide that where an assessee makes payment of the nature specified in the said section to a resident payee without deduction of tax and is not deemed to be an assessee-in-default under Sec. 201(1) on account of payment of taxes by the payee, then, for the purpose of allowing deduction of such sum, it shall be deemed that the assessee has deducted and paid the tax on such sum on the date of furnishing of return of income by the resident payee. These beneficial provisions are proposed to be applicable only in the case of resident payee.
In other words, if the deductor is able to establish that the payee has furnished the return of income by including such income in his return and has paid tax due on income declared by him in such return of income, it shall be deemed that the assessee has deducted and paid tax on such income on the date of furnishing return of income by the resident payee.
5. Taxes paid on income earned outside India [Explanation 1 to Sec. 40(a)(ii)]:
Any sum paid outside India and eligible for relief of tax under Sec. 90 or deduction from the income-tax payable under Sec. 91 is not allowable, and is deemed to have never been allowable, as a deduction under Sec. 40 of the Income-tax Act. However, the tax payers will continue to be eligible for tax credit in respect of income-tax paid in a foreign country in accordance with provision of Sec. 90 or Sec. 91, as the case may be.
Further, Explanation 2 has been inserted w.e.f. 1-6-2006 to provide that any sum paid outside India and eligible for relief of tax under newly inserted Sec. 90A will not be allowed as a deduction in the computation of profits and gains from business or profession.
Double Taxation Relief (Sec. 90,90A & 91):-
In the case of a resident, if an income earned outside India is charged to tax in that country, then the application of Sec. 90, 90A & 91 in respect of double taxation relief has to be looked into. If a double taxation avoidance agreement has been entered into between Government of India and Government of that country (in which he/she has earned income) then the agreement will be looked into for deciding the taxability of such incomes arising or accruing outside India.
If an agreement with a foreign country does not exist, then in respect of income earned outside India, the tax paid on such income in the foreign country or the Indian rate of tax, whichever is lower, is deductible from the total tax payable by the assessee on his total income including such foreign income.
6. Disallowance of certain fee, charge, etc. in the case of State Government Undertakings [Section 40(a)(iib)]
State Government Undertakings are separate legal entities distinct from the State Government and are liable to income-tax. If they pay dividends to State Government which owns them, then the tax consequences are :
(i) dividend is not a deductible expense, and
(ii) dividend attracts dividend distribution tax under section 115-O.
So, State Governments instead of taking the profits from their undertakings in the form of dividends opt to take it in the form of royalty, privilege fee, etc. exclusively levied by them on State Government undertakings. Payments in the form of these levies which are exclusive levies on State Government Undertakings (i) do not attract DDT and (ii) are claimed as deduction by State Government Undertakings in computing their business profits. This leads to Revenue contesting them as non-genuine expenditure and colourable device to reduce taxable profits and income-tax on it and also to escape DDT. Explanatory Memorandum to the Finance Bill, 2013 states as under:
"Disputes have arisen in respect of income-tax assessment of some State Government undertakings as to whether any sum paid by way of privilege fee, license fee, royalty, etc. levied or charged by the State Government exclusively on its undertakings are deductible or not for the purposes of computation of income of such undertakings...."
In order to protect the tax base of State Government undertakings vis-a-vis exclusive levy of fee, charge, etc., or appropriation of amount by the State Governments from its undertakings, the Finance Act, 2013 has amended section 40 by inserting new sub-clause (iib) in section 40(a) with effect from 1-4-2014. The said new sub-clause (iib) provides that deduction shall not be allowed as deduction for the purposes of computation of income of such undertakings under the head 'Profits and gains of business or profession' in respect of :
(A) royalty, license fee, service fee, privilege fee, service charge or any other name whatever called if such royalty etc., is exclusively levied on a State Government undertaking by the State Government; or
(B) any amount which is appropriated directly or indirectly from a State Government undertaking by the State Government.
This amendment will take effect from 1-4-2014 and will, accordingly, apply in relation to the assessment year 2014-15 and subsequent assessment years.
‘A State Government undertaking includes—
(i) a corporation established by or under any Act of the State Government;
(ii) a company in which more than 50% of the paid-up equity share capital is held by the State Government;
(iii) a company in which more than 50% of the paid-up equity share capital is held by the entity referred to in (i) or (ii) above (whether singly or taken together);
(iv) a company or corporation in which the State Government has the right to appoint the majority of the directors or to control the management or policy decisions, directly or indirectly, including by virtue of its shareholding or management rights or shareholders agreements or voting agreements or in any other manner;
(v) an authority, a board or an institution or a body established or constituted by or under any Act of the State Government or owned or controlled by the State Government;'.
The disallowance is attracted only if the following conditions are satisfied:
(i) The amount is in the nature of fee or charge and not tax or duty
(ii) The fee or charge is levied exclusively on State Government Undertakings. If levy is non-exclusive, that is, applicable to others apart from State Government undertakings also, disallowance is not attracted
(iii) Levy is by State Government. If levy is by Central Government or any other authority, there will be no disallowance
If above conditions satisfied, it does not matter what nomenclature is given to this exclusive levy of fee or charge - Whether royalty, license fee, service fee, privilege fee or service charge or any other.
Such colourable distribution of profits by State Government undertakings to State Government will continue to be outside purview of DDT. However, deduction cannot be claimed from taxable profits. Again, these exclusive levies in the form of royalty etc. will continue to be expenditure for MAT purposes and no addition will be made to book profits as there is no corresponding amendment to section 115JB. So, these levies will still be effective for reducing 'book profits' for MAT purposes but not for regular income-tax purposes.
(a) Tax levied on profits or gains [Sec. 40(a)(ii)]:
Any sum paid on account of any rate or ‗tax‘ levied on profits or gains of any business or profession or assessed at a proportion of, or otherwise on the basis of, any such profits or gains shall not be eligible for deduction;
Taxes which are not deductible
i. Indian income-tax
ii. Agricultural income-tax
iii. Interest payment in relation to income-tax
iv. Foreign income-tax.
Taxes paid on income earned outside India [Explanation 1 to Sec. 40(a) (ii)] [W.r.e.f. assessment year 2006-07]: Any sum paid outside India and eligible for relief of tax under Sec. 90 or deduction from the income-tax payable under Sec. 91 is not allowable, and is deemed to have never been allowable, as a deduction under Sec. 40 of the Income tax Act. However, the taxpayers will continue to be eligible for tax credit in respect of income-tax paid in foreign country in accordance with the provisions of Sec. 90 or Sec. 91, as the case may be.
Further, the Explanation 2 has been inserted w.e.f. 1-6-2006 to provide that any sum paid outside India and eligible for relief of tax under newly inserted Sec. 90A will not be allowed as a deduction in the computation of profits and gains business or profession.
(b) Payment to provident fund or other funds [Sec. 40(a) (iv)]:
Any payment to provident fund or other fund established for the benefit of employees of the assessee shall not be eligible for deduction, unless the assessee has made effective arrangements to secure that tax shall be deducted at source from any payments made from the funds which are chargeable to tax under the head Salaries.
As regards making of effective arrangement for deduction at tax of source, it has been held that a specific provision in the trust deed itself, for deduction of such tax would be a sufficient compliance. Further, the execution of a separate agreement with the trustees or issue of some deductions to the auditors , trustees or secretary to ensure such deduction, shall be treated as provision of effective arrangement.
(c) Tax paid by employer on non-monetary perquisites provided to employees [Sec. 40(a)(v)]:
Any tax actually paid by any employer on the perquisites not provided by way of monetary payment shall not be eligible for deduction while computing the business income of the employer.
7. Section 40A - [Expenses or payments not deductible in certain circumstances ]
The provisions, which are being discussed under various sub-sections of Sec.40A have an overriding effect over the provisions of any other section, because sec. 40A (1) clearly states that the provision of Sec.40A shall have effect not withstanding anything to the contrary contained in any other provisions of the Act. Therefore, any expenditure or allowance, though specifically allowable under any other provisions under the head business or profession, will not be deductible if any of the sub-section of Sec. 40A is applicable.
8. Expenses or payments not deductible where such payments are made to relatives [Sec.40 A(2)]
Where the assessee incurs any expenditure, in respect of which payment has been made or is to be made to certain specified persons (i.e., relatives or close associates of the assessee ), and the Assessing Officer is of the opinion that such expenditure is excessive or unreasonable having regard to the fair market value of the goods, services or facilities for which the payment is made or the legitimate needs of the business or profession of the assessee or the benefit derived or accruing to him therefrom, so much of the expenditure, as is so considered by him to be excessive or unreasonable, shall not be allowed as a deduction.
9. Disallowance of 100% of expenditure if payment is made by any mode other than account-payee cheque or draft [Sec. 40 A(3)(a)]
Where the assessee incurs any expenditure in respect of which a payment or aggregate of payments made to a person in a day, otherwise than by an account-payee cheque drawn on a bank or account-payee bank draft, exceeds Rs. 20,000 (Rs. 35,000 where payment is made for plying, leasing or hiring goods carriages), no deduction shall be allowed in respect of such expenditure.
Where payment is made for plying, hiring or leasing goods carriages, the payment shall have to be made by account-payee cheque or account-payee draft if the amount of payment exceeds Rs. 35,000 instead of Rs. 20,000 applicable in all other cases.
10. Situation where payment is made in subsequent year, although deduction for the expenses was already allowed in any earlier year:
Where an allowance has been made in the assessment for any year in respect of any liability incurred by the assessee for any expenditure and, subsequently, during any previous year the assessee makes payment in respect thereof, otherwise than by an account-payee cheque drawn on a bank or account-payee bank draft, the payment so made shall be deemed to be the profits and gains of business or profession and, Accordingly, chargeable to income-tax as income of the subsequent year if the amount of payment exceeds Rs. 20,000 (Rs. 35000).
Further, there are certain exceptions provided in rule 6DD, under which expenditure, even exceeding Rs. 20,000/Rs. 35,000 shall be allowed as deduction, even though the payment or aggregate of payments made to a person in a day is not made by an account-payee cheque/draft.
These exceptions are as follows-
a) Where the payment is made to-
i. The Reserve Bank of India or any banking company;
ii. The State Bank of India or any subsidiary bank;
iii. Any co-operative bank or land mortgage bank;
iv. Any primary agricultural credit society or any primary credit society;
v. The Life Insurance Corporation of India;
b) Where the payment is made to the Government and, under the rules framed by it, such payment is required to be made in a legal tender;
c) Where the payment is made by:-
i. any letter of credit arrangement through a bank;
ii. a mail or telegraphic transfer through a bank;
iii. a book adjustment from any account in a bank to any other account in that or any other bank;
iv. a bill of exchange made payable only to a bank;
v. the use of electronic clearing system through a bank account;
vi. a credit card;
vii. a debit card.
d) Where the payment is made by way of adjustment against the amount of any liability incurred by the payee for any goods supplied or services rendered by the assessee to such payee;
e) Where the payment is made for the purchase of-
i. agricultural or forest produce; or
ii. the produce of animal husbandry (including livestock, meat, hides and skins) or dairy or poultry farming; or
iii. fish or fish products; or
iv. the product of horticulture or apiculture, to the cultivator, grower or producer of such articles, produce or products;
f) Where the payment is made for the purchase of products manufactured or processed without the aid of power in a cottage industry, to the producer of such products;
g) Where the payment is made in a village or town, which on the date of such payment is not served by any bank, to any person who ordinarily resides, or is carrying on any business, profession or vocation, in any such village or town;
h) Where any payment is made to an employee of the assessee or the hire of any such employee, or in connection with the retirement, retrenchment, resignation, discharge or death of such employee, on account of gratuity, retrenchment compensation or similar terminal benefit and the aggregate of such sums payable to the employee or his heirs does not exceed fifty thousand rupees;
i) Where the payment is made by an assessee by way of salary to his employee after deducting the income-tax from salary in accordance with the provisions of Sec. 192 of the Act, and when such employee-
i. is temporarily posted for a continuous period of fifteen days or more in place other than his normal place of duty or on a ship; and
ii. does not maintain any account in bank at such place or ship;
j) Where the payment is required to be made on a day on which the banks are closed either on account of holiday or strike;
k) Where the payment is made by any person to his agent who is required to make payment in cash for goods or services on behalf of such person;
l) Where the payment is made by an authorised dealer or a money changer against purchase of foreign currency or travellers cheques in the normal course of his business.
The provisions of the Section do not apply to repayment of loans or payment towards the purchase price of capital assets such as plant and machinery not for re-sale.