Understanding the Amendment to Section 43B of Income Tax Act for MSMEs

Introduction

The Finance Act, 2023, introduced a significant amendment to Section 43B of the Income Tax Act, specifically targeting Micro, Small, and Medium Enterprises (MSMEs). This amendment aims to streamline tax deductions related to expenses incurred from transactions with these enterprises, fostering timely payments and supporting the financial health of MSMEs.

Key Changes and Their Implications

> Payment Timelines

Mandated Payment Periods: Payments to micro and small enterprises must adhere to the timelines specified under Section 15 of the MSMED Act, 2006. The timelines are:

Agreed Period: If an agreement specifies a period, payment must be made within this period, not exceeding 45 days.

No Agreement: If no specific period is agreed upon, payment must be made within 15 days from the date of acceptance of goods or services.

Consequences of Non-compliance: Failure to meet these payment deadlines will result in the disallowance of related expenses as deductions in the year they are incurred. Instead, the deduction will only be allowed in the year the payment is actually made.

MSME SAMADHAAN enables Micro and Small Enterprises (MSEs) to file complaints against buyers who don’t pay within 45 days.

> Deduction Conditions

Actual Payment Requirement: The amendment stipulates that expenses incurred from transactions with MSMEs can only be deducted when the payment is actually made. This change overrides the previous practice where expenses could be claimed based on accrual accounting principles.

Impact on Cash Flow Management: Businesses must now manage their cash flows more efficiently to ensure timely payments, or they risk losing out on tax deductions for those expenses.

> Interest on Delayed Payments

Disallowance of Interest: According to Section 23 of the MSMED Act, any interest paid on delayed payments to MSMEs is not deductible under the Income Tax Act. This adds an additional layer of financial discipline, encouraging businesses to avoid delays in settling dues.

> Additional Provisions and Requirements

The provision in the Income Tax Act, 1961 is applicable only to micro and small units which are engaged in the manufacturing of goods or rendering services. It is not applicable to trading units.

Exclusions: Provisions of clause (h) of Section 43B of the Income Tax Act, 1961 are applicable only to micro and small enterprises and are not applicable to medium enterprises. The said provisions would also not apply to a buyer who is covered by the provisions of Section 44AD or Section 44ADA of the Income Tax Act, 1961

Non-registered Units: The provisions of Section 43B(h) will apply even to units not registered under MSMED Act, 2006.

Disallowance of Interest: Interest payable to an MSME unit in accordance with Section 23 of the MSMED Act, 2006 will not be allowed as a deduction for computing the taxable income of the recipient of goods and services.

Audit Requirement: Section 22 of MSMED Act, 2006 provides that where the buyer is subject to audit under any law, he needs to furnish additional information along with the financials namely principal amount and interest due thereon23/ delay payments/ interest due unpaid.

It is worth nothing that Private limited companies must file Form MSME-1 with the Registrar of Companies (ROC) if they have MSME transactions and payments are delayed beyond 45 days.

Conclusion

The amendment to Section 43B of the Income Tax Act is a significant step towards supporting the financial health of MSMEs. By mandating timely payments and disallowing deductions for delayed payments, it encourages businesses to maintain financial discipline. While this may pose challenges in terms of cash flow management, businesses can navigate these changes by implementing robust payment processes, negotiating clear payment terms, regularly reviewing and reconciling accounts, and maintaining buffer funds.