A practical guide to the timing disallowance for delayed payments to Micro and Small Enterprises under the Income-tax Act, 1961.
Why this clause matters
When the Finance Act, 2023 inserted clause (h) into Section 43B of the Income-tax Act, 1961 with effect from Assessment Year 2024-25, it quietly changed cash-flow priorities for thousands of businesses. For the first time, the timing of payment to a supplier — rather than merely the existence of an expense — could determine whether a deduction is allowed in a given year.
The provision is short, but its practical reach is wide. It touches every assessee maintaining accounts on the mercantile (accrual) basis who buys goods or services from registered Micro and Small enterprises. Misreading it leads to two opposite errors: businesses that ignore it face unexpected disallowances, while those who over-apply it add back amounts that were never disallowable in the first place.
What the provision says
Section 43B opens with a non-obstante clause and lays down a single governing principle: certain specified expenses are allowed as a deduction only in the previous year in which they are actually paid, irrespective of the year in which the liability accrued.
Clause (h) brings within this net:
Any sum payable by the assessee to a micro or small enterprise beyond the time limit specified in section 15 of the Micro, Small and Medium Enterprises Development Act, 2006.
In plain terms: if a payment to a Micro or Small enterprise is made beyond the time limit prescribed under the MSMED Act, the deduction is deferred to the year of actual payment.
The time limit under Section 15 of the MSMED Act
The trigger for clause (h) is a breach of the payment period fixed by Section 15 of the MSMED Act, 2006:
- Where there is a written agreement, payment must be made by the agreed date, but in no case beyond 45 days from the day of acceptance or deemed acceptance of goods or services.
- Where there is no written agreement, payment must be made within 45 days.
A breach of this limit is what brings the sum within clause (h).
Who is covered — and who is not
Clause (h) applies only to amounts payable to Micro and Small enterprises. This carries three important consequences:
1. Medium enterprises are excluded. A delay in paying a Medium enterprise does not attract any disallowance under this clause.
2. The supplier’s classification is decisive. The buyer must ascertain whether the supplier is registered as a Micro or Small enterprise — typically through the Udyam Registration Certificate. The buyer’s own size is irrelevant.
3. Traders are generally outside the scope. As clarified by the Office Memorandum issued by the Ministry of MSME, enterprises engaged purely in trading are registered on Udyam for limited purposes and the benefit of Section 15 (and therefore clause (h)) generally does not extend to them.
The practical takeaway: maintain supplier-wise records of MSME status, capturing the Micro/Small classification in the vendor master.
The most misunderstood point: it is a timing rule, not a penalty
This is where most confusion arises, and it is worth stating clearly.
Section 43B(h) does not permanently disallow an expense. It only defers the deduction to the year of actual payment.
The operative words allow the deduction “in that previous year in which such sum is actually paid.” The consequence of a late payment is therefore a shift in the year of deduction — never an outright loss of the deduction.
This distinction resolves a frequent practical question:
An invoice is raised in April and paid in December of the same financial year, beyond the 45-day limit. Is it disallowed?
The answer is no. Although the 45-day limit was breached, the sum was actually paid within the same previous year in which the liability accrued. The year of accrual and the year of payment coincide, so the deduction falls in that very year. There is nothing to defer and nothing to add back.
The disallowance under clause (h) operates only on amounts that remain outstanding as on 31 March beyond the applicable 15/45-day limit. Such amounts are disallowed in that year and allowed in the subsequent year of actual payment. Amounts already paid during the year — whenever during the year — fall outside the disallowance.
The proviso: why clause (h) gets no extra time
The proviso to Section 43B grants relief for clauses (a) to (g): if the sum is paid on or before the due date for furnishing the return of income under Section 139(1), the deduction is allowed in the year of accrual itself.
Clause (h) is expressly carved out of this relief — the proviso applies “except the provisions of clause (h).” This means a Micro or Small enterprise dues outstanding at year-end cannot be rescued by paying before the return filing date. For clause (h), the only thing that matters is whether the sum was paid within the previous year itself.
It is important to read this carefully. The carve-out is relevant only to amounts outstanding at year-end. It has no application to amounts already paid during the year, because for those the main limb of the section is already satisfied.
The interest consequence under the MSMED Act
A delay beyond the Section 15 limit carries a separate and often-overlooked consequence that has nothing to do with the Income-tax Act.
Under Section 16 of the MSMED Act, a buyer who delays payment becomes liable to pay the supplier compound interest, with monthly rests, at three times the bank rate notified by the Reserve Bank of India. This liability arises automatically — whether or not the supplier raises a demand.
Crucially, Section 23 of the MSMED Act disallows this interest as a deductible expenditure for income-tax purposes, permanently. Unlike the principal expense (which is merely deferred under 43B(h)), the MSMED interest can never be claimed as a business deduction.
There is no separate penalty under the Income-tax Act for a 43B(h) disallowance as such. However, where a disallowance increases taxable income, the ordinary consequences of higher tax — including interest under Sections 234B and 234C on any shortfall in advance tax — may follow. A correctly disclosed timing disallowance does not, by itself, attract penalty for under-reporting.
Compliance and reporting
Businesses should build the following into their year-end process:
- Collect Udyam certificates and record Micro/Small classification in the vendor master.
- Identify year-end outstandings to Micro and Small enterprises that exceed the 15/45-day limit, and add them back in the computation of income.
- Disclose the position in Clause 22 of Form 3CD, including unpaid MSMED interest where applicable.
- File MSME Form-1 (the half-yearly return to the Registrar of Companies) where the assessee is a company with outstanding dues to MSME suppliers — a separate Companies Act compliance that runs parallel to the income-tax position.
Conclusion
Section 43B(h) is best understood not as a penalty for late payment but as a discipline tool: it links the deductibility of an expense to timely payment of Micro and Small enterprises, and where payment is delayed across a year-end, it postpones the deduction to the year the money actually moves. Read correctly, it disallows nothing that has been paid within the year; read carelessly, it produces both missed disallowances and unnecessary add-backs.
For businesses, the message is straightforward: know which of your suppliers are Micro and Small, pay them within time, and where you cannot, recognise that the deduction simply waits — while the MSMED interest, unfortunately, does not wait and is never deductible.
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