Profit Below 6%: Has New Law Changed Old Section 44AD–44AB Principle?

Profit Below 6%: Has New Law Changed Old Section 44AD–44AB Principle?
Can Even a ₹20 Lakh Trader Now Be Forced into Tax Audit under the Income-tax Act, 2025?

(For ease of understanding, this article compares the new Sections 58, 62 and 63 of the Income-tax Act, 2025 with the familiar provisions of the erstwhile Sections 44AD, 44AA and 44AB of the Income-tax Act, 1961. For simplicity, it is assumed that the entire turnover is received through banking or digital modes and, therefore, income under the presumptive scheme is computed at 6% of turnover. The discussion equally applies where income is computed at 8% of turnover. Although the illustrations relate to business assessees, the same principles apply, with suitable modifications, to eligible professionals covered by Section 58.)

Introduction

The Income-tax Act, 2025 substantially retains the presumptive taxation scheme that earlier existed under Sections 44AD, 44AA and 44AB of the Income-tax Act, 1961 by re-enacting it through Sections 58, 62 and 63. While the new provisions broadly follow the earlier scheme, Section 58(3) has given rise to an important question of interpretation. The answer to this question may determine whether a small businessman declaring profit below the presumptive rate merely loses the benefit of presumptive taxation or becomes liable to maintain books of account and undergo tax audit even where Sections 62 and 63 may not independently require such compliance.

The Central Question

Does Section 58(3) automatically require every assessee declaring profit below 6% to maintain books of account under Section 62 and undergo tax audit under Section 63, irrespective of the turnover limits, conditions and exemptions contained in those sections, or does it merely require compliance with Sections 62 and 63 according to their own provisions, as was the position under the erstwhile Sections 44AA and 44AB?

The controversy arises because Section 58(3) provides that where an eligible assessee declares profit below the presumptive rate and his total income exceeds the maximum amount not chargeable to tax, he “shall maintain books of account as required under Section 62 and get his accounts audited as required under Section 63.”

The entire controversy centres on the qualifying words “as required under Section 62” and “as required under Section 63.” Two interpretations are possible. Under the first, Section 58(3) merely requires the assessee to comply with Sections 62 and 63 exactly as they stand, including all their turnover limits, exemptions and conditions. Under the second, Section 58(3) itself creates an independent obligation requiring every eligible assessee declaring profit below 6% to maintain books of account and undergo tax audit irrespective of those statutory limits. This article examines which of these interpretations better reflects the language and scheme of the Act.

1. Has the New Law Really Changed the Old Position?

Every Chartered Accountant and businessman is familiar with the scheme of the erstwhile Sections 44AD, 44AA and 44AB. Under Section 44AD, an eligible business could declare income at the prescribed presumptive rate instead of maintaining detailed books of account and proving its actual profits. Section 44AA generally exempted businesses with turnover up to ₹25 lakh from maintaining books of account, while Section 44AB required tax audit only where the prescribed turnover limits were exceeded. Thus, under the normal provisions, tax audit depended primarily upon the size of the business and not upon the percentage of profit declared.

The scheme was simple. An eligible assessee could opt for presumptive taxation by declaring the prescribed percentage of profit and thereby avoid detailed compliance. If the actual profit was lower, the assessee was free to disclose the true income. The consequence was only that he ceased to enjoy the benefit of the presumptive scheme and thereafter became subject to the ordinary provisions governing maintenance of books of account and tax audit.

The Income-tax Act, 2025 broadly retains this structure through Sections 58, 62 and 63. The significant difference is that Section 58(3) specifically requires an assessee declaring profit below the presumptive rate to maintain books of account and undergo tax audit “as required under Sections 62 and 63.” The interpretation of these qualifying words gives rise to the present controversy.

Old Law and New Law at a Glance

2. What Does an Assessee Really Lose by Declaring Less than 6%?

The controversy can be understood by asking a simple question. What is the real consequence of declaring profit below the presumptive rate? Does the assessee merely lose the benefit of the presumptive scheme, or does he also lose the independent statutory reliefs available under Sections 62 and 63?

The object of presumptive taxation has always been to simplify compliance. Instead of maintaining detailed books of account and establishing the correctness of every item of income and expenditure, an eligible assessee may declare the prescribed percentage of turnover as income. The Revenue also benefits because it is relieved from examining books of account and verifying the actual profit. Thus, the scheme is intended to reduce compliance for both the taxpayer and the Department.

At the same time, the scheme has always been optional. An assessee whose actual profit is lower than the presumptive rate cannot be compelled to declare a higher income. He is entitled to disclose his true profits. The real issue is what follows after he exercises that option.

Under the erstwhile Section 44AD, the position was well understood. Once the assessee declared profit below the presumptive rate, he simply went out of the presumptive scheme. Thereafter, his liability to maintain books of account and undergo tax audit was governed by Sections 44AA and 44AB in their entirety, including their turnover limits, exemptions and other conditions. He did not enter a separate or more stringent compliance regime merely because he disclosed his actual income.

Section 58(3) deals with the same situation under the Income-tax Act, 2025. It provides that such an assessee shall maintain books of account “as required under Section 62” and get his accounts audited “as required under Section 63.” If these qualifying words are given their ordinary meaning, the assessee simply becomes subject to Sections 62 and 63 exactly as any other businessman. If they are ignored, Section 58(3) may be read as creating an independent obligation requiring books of account and tax audit irrespective of what Sections 62 and 63 themselves provide.

The practical difference between these two interpretations is significant. Under the harmonious interpretation, the assessee loses only the concession available under the presumptive scheme. Under the literal interpretation, he may also lose the independent statutory reliefs available under Sections 62 and 63. It is this difference that gives rise to the anomalies discussed in the following paragraphs.

3. What Happens if Section 58(3) Is Read Literally?

If Section 58(3) is construed as merely requiring compliance with Sections 62 and 63 according to their own provisions, the legal position remains substantially the same as under the erstwhile Sections 44AD, 44AA and 44AB. The difficulty arises only if Section 58(3) is interpreted as creating an independent obligation requiring books of account and tax audit regardless of the statutory conditions contained in Sections 62 and 63.

First Anomaly – Does Tax Audit Now Depend upon Profit Instead of Turnover?

Since the introduction of tax audit, Parliament has consistently treated turnover, and not the rate of profit, as the basis for deciding whether a business should be audited. Over the years, the audit threshold has been progressively increased, reflecting a clear legislative policy of reducing the compliance burden on businesses.

A literal interpretation of Section 58(3), however, produces a different result. Consider the following example:

Under this interpretation, the trader having a turnover of only ₹20 lakh may have to maintain books of account and undergo tax audit merely because he has disclosed his actual profit of 4%, whereas another trader carrying on a much larger business escapes both compliances by declaring 6% under the presumptive scheme.

This appears inconsistent with the basic principle underlying tax audit. The law has always linked audit to the scale of the business rather than to the percentage of profit earned. If Parliament intended to replace this long-standing principle, one would ordinarily expect clear words to that effect. Section 58(3) contains no such express indication.

The next anomaly is even more significant because it concerns the statutory relief from maintaining books of account available to very small businesses.

Second Anomaly – Does the Relief up to ₹25 Lakh for Maintaining Books of Account Become Meaningless?

The next anomaly arises when Section 58(3) is read together with Section 62. Under Section 62, businesses having turnover up to ₹25 lakh are generally not required to maintain books of account. The purpose of this provision is to spare very small businesses from the burden and cost of maintaining detailed books.

Now consider a trader having a turnover of only ₹20 lakh and an actual profit of 4%. Under Section 62, he would ordinarily be exempt from maintaining books of account because his turnover is below ₹25 lakh. However, if Section 58(3) is read literally, the same trader may still have to maintain books merely because he declined to declare 6% under the presumptive scheme.

This raises an obvious question. Did Parliament intend that a trader who is otherwise exempt under Section 62 should lose that exemption simply because he honestly disclosed his actual income? If so, the statutory relief granted by Section 62 becomes ineffective for the very class of taxpayers for whom it was enacted.

The harmonious interpretation avoids this anomaly. An assessee declaring profit below the presumptive rate merely comes out of the presumptive scheme. Thereafter, Section 62 should apply in its entirety, including its turnover limit, exemptions and conditions. The cost of declaring the actual profit is the loss of the presumptive concession under Section 58, not the loss of an independent statutory benefit expressly granted by Section 62.

This interpretation also gives full effect to the language used in Section 58(3). Parliament did not simply provide that every assessee declaring less than 6% shall maintain books of account. Instead, it required books of account to be maintained “as required under Section 62.” Those qualifying words necessarily require Section 62 to be applied as a whole.

The same reasoning applies equally to Section 63, because it is that section which determines when tax audit is legally required.

Third Anomaly – Does Section 58(3) Override the ₹10 Crore Limit for Tax Audit?

Section 63 is the principal provision governing tax audit under the Income-tax Act, 2025, just as Section 44AB was under the 1961 Act. It prescribes not only the cases where tax audit is compulsory but also the cases where it is not. Parliament has progressively increased the audit threshold from ₹1 crore to ₹10 crore where cash receipts and cash payments do not exceed the prescribed limits, clearly indicating its intention to reduce compliance for businesses carrying on transactions mainly through banking channels.

Consider again a trader having a turnover of ₹20 lakh and an actual profit of 4%. Under Section 63 alone, tax audit does not arise because the turnover is far below the prescribed limit. However, if Section 58(3) is interpreted literally, the same trader may become liable to tax audit merely because he has declared profit below 6%.

Such an interpretation virtually renders the turnover limit in Section 63 meaningless for every eligible assessee declaring less than the presumptive rate. The determining factor ceases to be turnover and becomes the percentage of profit declared. This is difficult to reconcile with the legislative policy reflected in both the old and the new law.

A more harmonious interpretation is readily available. Parliament deliberately used the expression “as required under Section 63.” These qualifying words indicate that the requirement of tax audit must still be determined by applying Section 63 itself. Consequently, where Section 63 does not require tax audit because the turnover is below the prescribed limit, Section 58(3) should not be construed as creating an independent audit obligation.

If this interpretation is rejected, it leads to an even more striking anomaly, namely that a business with a turnover of ₹2.50 crore may have to undergo tax audit while another business with a turnover of ₹7 crore may not.

Fourth Anomaly – Can a Business Having Turnover of ₹2.50 Crore Face Tax Audit While Another Having Turnover of ₹7 Crore Does Not?

The strongest indication that a literal interpretation may not reflect the legislative intent emerges when two businesses carrying on identical activities are compared.

Assume that Trader A has a turnover of ₹2.50 crore and an actual profit of 4%. Since his turnover is within ₹3 crore, he is eligible for the presumptive scheme under Section 58 but chooses to declare his actual profit. Trader B also earns 4% profit but has a turnover of ₹7 crore. As his turnover exceeds ₹3 crore, he is outside the presumptive scheme and is governed directly by Sections 62 and 63.

If Section 58(3) is interpreted literally, Trader A may be required to maintain books of account and undergo tax audit merely because he declared 4% instead of 6%. At the same time, Trader B, despite carrying on a much larger business, may not require tax audit because his case is governed solely by Section 63.

The position may be summarised as follows:

Such a result is difficult to reconcile with the legislative policy behind tax audit. Parliament has progressively increased the audit threshold to reduce the compliance burden on businesses. It is therefore unlikely that, while granting this relief, it intended a business with a turnover of ₹2.50 crore to bear a heavier compliance burden than another carrying on a business of ₹7 crore merely because the former disclosed its actual profit.

This comparison also explains why Parliament used the expressions “as required under Section 62” and “as required under Section 63.” Had it intended every assessee declaring profit below 6% to maintain books and undergo tax audit irrespective of those provisions, it could have said so in clear terms. Instead, it chose to make compliance subject to Sections 62 and 63, indicating that those provisions continue to govern the assessee after he opts out of the presumptive scheme.

All four anomalies therefore point in the same direction. They suggest that Section 58(3) is intended only to withdraw the benefit of the presumptive scheme and not to deprive the assessee of the independent statutory reliefs available under Sections 62 and 63.

5. Which Interpretation Better Fits the Scheme of the Act?

The four anomalies discussed above arise only if Section 58(3) is treated as an independent provision overriding Sections 62 and 63. The question, therefore, is whether the language of the section really requires such an interpretation.

In the author’s respectful view, it does not. Section 58 is a provision for computing income under the presumptive taxation scheme. It does not independently prescribe when books of account are to be maintained or when tax audit becomes compulsory. Those matters are specifically governed by Sections 62 and 63.

Section 58(3) does not simply require the assessee to maintain books of account and undergo tax audit. It qualifies both obligations by using the words “as required under Section 62” and “as required under Section 63.” These words cannot be treated as redundant. They indicate that compliance must be determined by applying Sections 62 and 63 in their entirety, including their turnover limits, exemptions and conditions.

If Parliament intended to make books of account and tax audit compulsory in every case where profit is declared below the presumptive rate, it could easily have said so by using clear overriding language. No such provision has been enacted. Instead, Parliament has linked the obligation to Sections 62 and 63 themselves, indicating that those sections continue to regulate the field.

6. Practical Importance and Conclusion

The issue discussed in this article is not merely academic. It is likely to affect thousands of small businesses and professionals filing returns under the Income-tax Act, 2025. Since returns are processed electronically through the Centralised Processing Centre (CPC), the interpretation adopted in the processing software may determine whether an assessee declaring profit below the presumptive rate is treated as liable to maintain books of account and undergo tax audit. If the literal interpretation is adopted, genuine taxpayers may receive notices even though their turnover is below the statutory limits prescribed under Sections 62 and 63.

The issue is equally important for tax professionals. A businessman earning a genuine profit below 6% should not be advised to declare a higher income merely because of uncertainty regarding Section 58(3), if the statute does not require him to do so. Conversely, if Parliament intended a different consequence, taxpayers are entitled to know it with certainty. An early clarification by the CBDT would therefore help avoid unnecessary litigation and ensure uniform application of the law.

The controversy is not whether an assessee declaring less than the presumptive rate should substantiate his lower profit. That has always been the consequence of opting out of the presumptive scheme. The real issue is whether, after opting out, the assessee simply becomes subject to Sections 62 and 63 in accordance with their own provisions, or whether Section 58(3) creates an independent compliance regime overriding those provisions.

In the author’s respectful view, the language of Section 58(3) supports the former interpretation. By requiring the assessee to maintain books of account and undergo tax audit “as required under Sections 62 and 63,” Parliament appears to have incorporated those provisions with all their statutory limits, exemptions and conditions. Accordingly, declaring profit below the presumptive rate results only in the loss of the concession available under Section 58. It does not, by itself, deprive the assessee of the independent statutory reliefs available under Sections 62 and 63.

This interpretation gives meaning to every word used in Section 58(3), preserves the legislative scheme reflected in both the old and the new law, and avoids anomalous results whereby a smaller business may face a heavier compliance burden than a much larger one merely because it has honestly declared its actual profit.

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Disclaimer: The views expressed are personal and intended for academic discussion. The issue discussed is interpretational and may ultimately be settled by judicial pronouncement.