1. Introduction
The Finance Act, 2024 introduced a brand-new section i.e. Section 194T, which comes into effect from 1 April 2025(Financial Year 2025-26 onwards). This provision requires every firm or LLP to deduct TDS on certain payments made to its partners.
Till now, payments such as remuneration or interest to partners were not subject to TDS, even though they were taxable in the hands of the partner. Section 194T has been brought in to ensure transparency and better reporting of such transactions.
2. Who Will Deduct and On What Payments?
The responsibility to deduct tax lies with every partnership firm or LLP. The provision applies when such entities pay or credit to their partners any amount in the nature of:
- Salary or remuneration
- Commission or bonus
- Interest (on capital or loan from partners)
It is important to note that the language used is “in the nature of,” which means that substance will prevail over form. Even if a payment is booked under some other head but in essence represents partner remuneration, commission, bonus, or interest, it will fall within the ambit of Section 194T.
3. Payments Not Covered
Certain payouts to partners remain outside the scope of TDS under this section, such as:
- Share of profit from the firm (which is exempt in the hands of the partner under Section 10(2A)).
- Return of capital or drawings.
- Allocation of reserves or revaluation surpluses, unless they are in the nature of remuneration or interest.
4. Threshold, Rate, and Timing
This means even book entries can trigger a TDS liability.
5. Resident vs Non-Resident Partners
While Section 194T is generally applicable to all partners, in cases where the partner is a non-resident, the provisions of Section 195 may also come into play. Careful analysis will be needed to determine whether deduction should be under Section 194T or Section 195, particularly when treaty benefits are available.
6. Interaction with Other Provisions
- In the hands of the partner, such remuneration or interest is taxable as business income under Section 28(v).
- The firm can claim deduction of these expenses, subject to the limits laid down in Section 40(b).
- TDS, however, will apply on the entire credited or paid amount, not just the portion allowable under Section 40(b). This may create reconciliation issues between TDS reflected in Form 26AS and income actually taxablein the partner’s return.
7. Compliance Requirements
Firms and LLPs must ensure compliance with the following:
1. Deposit of TDS – By the 7th of the following month; for March, by 30th April.
2. Quarterly Returns – File in Form 26Q by prescribed due dates.
3. TDS Certificates – Issue Form 16A to partners within 15 days of filing the quarterly return.
4. Correction Statements – From FY 2025-26, correction statements cannot be filed after six years from the end of the relevant financial year.
8. Numerical Illustrations
Example: A partner earns ₹1,80,000 as interest on capital and ₹60,000 as interest on a separate loan. The total is ₹2,40,000. TDS under Section 194T will apply on the entire ₹2,40,000, resulting in a deduction of ₹24,000.
9. Key Challenges and Grey Areas
- Classification of Payments: Clear drafting in the partnership deed is essential to avoid disputes about what constitutes remuneration or interest.
- Capital Account Credits: Even if the payment is not withdrawn but only credited, TDS still applies.
- Non-Resident Partners: Uncertainty remains about whether Section 194T or Section 195 prevails.
- Mismatch with Section 40(b): TDS may be deducted on amounts that are not allowable in the firm’s computation.
- Settlement on Retirement or Admission of Partners: Careful bifurcation is required to avoid misclassification.
10. Penalties and Consequences
Failure to deduct or deposit TDS can lead to:
- Interest liability under Section 201(1A).
- Late fee under Section 234E for delayed return filing.
- Penalty under Section 271H.
- Disallowance of 30% of such payments under Section 40(a)(ia).
11. Conclusion
Section 194T marks a significant change in the taxation of partnership firms and LLPs. From 1 April 2025, firms must deduct TDS on payments of remuneration, commission, bonus, or interest to partners once the threshold of ₹20,000 is crossed. The provision is designed to improve transparency and reporting, but it also introduces compliance challenges and interpretational issues.
Firms should prepare themselves by revisiting their partnership deeds, setting up proper accounting processes, and educating partners about the impact of TDS on their income. This proactive approach will ensure smooth compliance and avoid disputes in future.
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