In relation to section 40(a)(ia), Explanatory Memorandum to Finance (No.2) Bill 2014/CBDT Circular No. 1 of 2015 explained that disallowance of whole of the amount of expenditure in case of payments to residents for whom TDS is a merely mode of collection of tax and not discharge of final tax liability results into undue hardship for the taxpayers and accordingly, s.40(a)(ia) is amended to restrict disallowance only to 30% of the expenditure amount. Thus, disallowance  Should be in proportion to the TDS rates which apply to residents which ranges from 2% to 30%.

However, similar changes are not made in section 40(a)(i) which governs the non-deduction of TDS on payments to nonresidents. It may be noted that TDS rates applicable to majority of payments to nonresidents by way of interest, royalty and FTS also are in the range of 5% to 10% which are also final tax payable by nonresident payees.

Disallowance of 100% of expenditure involving payments to residents effectively results in recovery of 30% tax by the Revenue from the payers whereas the final tax payable by non-residents is only in the range of 5% to 10%.


In line with section 40(a)(ia) of the Act, it is recommended that s.40(a)(i) should also be amended restricting the disallowance to 30 percent of the amount of expenditure

Source-  ICAI Pre-Budget Memorandum–2018 (Direct Taxes and International Tax)

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June 2021