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Tax Deduction at Source (TDS) is an onerous responsibility casted on the payer of income. Non compliance imposes multiple consequences for the deductor. More heavy is the consequences if the tax amount is deducted but not paid in the Government Treasury. Further, even if the tax is deducted and paid to the Government treasury, penal consequences apply if the deductor fails to file the quarterly TDS return within due date or fails to issue the TDS certificate within prescribed time frame.
One of the consequences for non compliance with the TDS provision u/s 40(a)(ia). is the disallowance of the expenses in the hands of the deductor. That is, expenditure on which (a) TDS is not done by the payer or (b) after deduction, TDS amount is not paid by the deductor then such expenditure would not be eligible for deduction [Section 40(a)(ia)]. Earlier, there were 100% disallowance of such expenditure which is not restricted to 30%. The Tax Audit Report (in Form 3CD) requires the tax auditor also to report such amount which is disallowable u/s 40(a)(ia).
Many are not aware of the fact that the disallowance is not compulsory. That is, it may be possible that the payer has not done TDS but still he may be eligible for deduction. Now, let us know what section 40(a)(ia) says. It reads as under:
Section 40 – Amounts not deductible.
(ia) thirty per cent of any sum payable to a resident, on which tax is deductible at source under Chapter XVII-B and such tax has not been deducted or, after deduction, has not been paid on or before the due date specified in sub-section (1) of section 139 :
Provided that where in respect of any such sum, tax has been deducted in any subsequent year, or has been deducted during the previous year but paid after the due date specified in sub-section (1) of section 139, thirty per cent of such sum shall be allowed as a deduction in computing the income of the previous year in which such tax has been paid :
Provided further that where an assessee fails to deduct the whole or any part of the tax in accordance with the provisions of Chapter XVII-B on any such sum but is not deemed to be an assessee in default under the first proviso to sub-section (1) of section 201, then, for the purpose of this sub-clause, 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 referred to in the said proviso.
Explanation.—For the purposes of this sub-clause,—
(i) “commission or brokerage” shall have the same meaning as in clause (i) of the Explanation to section 194H;
(ii) “fees for technical services” shall have the same meaning as in Explanation2 to clause (vii) of sub-section (1) of section 9;
(iii) “professional services” shall have the same meaning as in clause (a) of the Explanation to section 194J;
(iv) “work” shall have the same meaning as in Explanation III to section 194C;
(v) “rent” shall have the same meaning as in clause (i) to the Explanation to section 194-I;
(vi) “royalty” shall have the same meaning as in Explanation 2 to clause (vi) of sub-section (1) of section 9;
More particularly, second proviso to section 40(a)(ia) need emphasize. It reads
“Provided further that where an assessee fails to deduct the whole or any part of the tax in accordance with the provisions of Chapter XVII-B on any such sum but is not deemed to be an assessee in default under the first proviso to sub-section (1) of section 201, then, for the purpose of this sub-clause, 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 referred to in the said proviso”.
It may be carefully noted that the proviso to the said section provides that the amount will not be disallowed if the payer is not treated as “Assessee in default”.
In short, it will be presumed that the payer has deducted and paid the TDS if payer is not treated as Assessee in Default according to the first provision to sub section 1 to section 201.
Section 201 to the IT Act stipulates situations when the person liable for TDS could be treated as Assessee in default. Sub section 1 to section 201 reads as under:
Consequences of failure to deduct or pay.
- (1) Where any person, including the principal officer of a company,—
(a) who is required to deduct any sum in accordance with the provisions of this Act; or
(b) referred to in sub-section (1A) of section 192, being an employer,
does not deduct, or does not pay, or after so deducting fails to pay, the whole or any part of the tax, as required by or under this Act, then, such person, shall, without prejudice to any other consequences which he may incur, be deemed to be an assessee in default in respect of such tax:
Provided that any person, including the principal officer of a company, who fails to deduct the whole or any part of the tax in accordance with the provisions of this Chapter on the sum paid to a resident or on the sum credited to the account of a resident shall not be deemed to be an assessee in default in respect of such tax if such resident—
(i) has furnished his return of income under section 139;
(ii) has taken into account such sum for computing income in such return of income; and
(iii) has paid the tax due on the income declared by him in such return of income,
and the person furnishes a certificate to this effect from an accountant in such form as may be prescribed4:
Provided further that no penalty shall be charged under section 221 from such person, unless the Assessing Officer is satisfied that such person, without good and sufficient reasons, has failed to deduct and pay such tax.
In short, a person cannot be treated as Assessee in default if the
a] Recipient has filed the return of income
b] Recipient has considered such amount as his income
c] Recipient has paid the income tax on such amount received
d] Recipient issues the certificate (in Form 26A) from his CA to the payer confirming the above facts.
If above 4 condition are satisfied, the payer would not be treated as Assessee in default and hence no tax can be recovered from the payer. It also means that the requirements of proviso to section 40(a)(ia) for excluding the amount from disallowance is also met. As a result, no disallowance of 30% u/s 40(a)(ia) is warranted.
Now, another question arises. Whether it is mandatory for auditor to mention the amount of disallowance in his audit report (i.e., Form No. 3CD)?
It may be noted that the audit report require auditor to mention the amount “disallowable u/s 40(a)(ia)”. If the auditee furnishes Form No. 26A from the payee confirming above, then nothing is disallowable u/s 40(a)(ia). So, only if the auditee furnishes the said Form No. 26A that the auditor could report the amount disallowable u/s 40(a)(ia) as Nil and not otherwise. It may so happen that the auditor may quantify the amount as disallowable in his audit report but the assessee may not opt to disallow it on the presumption that Form No. 26A could be submitted at a later stage. In such cases, ITR will be processed with adjustment for disallowance as it is within the power of prima facie adjustment u/s 143(1)(a). However, section 154 amendments can be demanded by the Assessee after obtaining Form No. 26A from the payee.
It is relevant here to note that, if there is a disallowance u/s 40(a)(ia), it means that the payer is also an Assessee in Default. Disallowance is just one penal consequence. The second penal consequences could be recovery of such TDS amount by the department from the payer. The TDS wing of Income Tax Department is gearing up for such recovery on the basis of information they have received from Auditor in Form No. 3CD. Better, comply with the TDS provision. Disallowance u/s 40(a)(ia) can be beginning of another recovery proceeding.