TDS under Section 194T of Income Tax Act, 1961

Section 194T, introduced in the Finance (No. 2) Bill, 2024 mandates a 10% Tax Deduction at Source (TDS) on payments made to partners by firms, including LLPs, starting from FY 2024-25. This includes payments such as salary, remuneration, bonuses, commissions, or interest, with no TDS required for profit shares or if payments don’t exceed ₹20,000 annually. The introduction of this section aims to address gaps in tax legislation and promote timely account finalization. However, it presents challenges, including the need for firms to revise partnership deeds, increased compliance with TDS returns, and potential penalties for late TDS payments. The section also raises practical concerns regarding the timing and amount of TDS on periodic partner withdrawals, creating uncertainties about its implementation. Firms must carefully draft partnership deeds to navigate these challenges. The section may require further amendments to enhance its effectiveness before becoming mandatory.

Introduction:

The Hon’ble Finance Minister Smt. Nirmala Sitharaman introduced finance bill, 2024 in the august house on 23^rd July 2024. Further the bill has been passed in Lok Sabha on 7^th August 2024 with 45 amendments in the finance bill and pending with Rajya Sabha. The budget 2024 is a welcoming budget in all sectors and aims to reduce the conflicts and complexities in the Income Tax Act, 1961 in the upcoming time.

Section – 194T

The Hon’ble Finance Minister has introduced a new tax deduction requirement for firms, including LLPs, effective from Assessment Year 2025-26 (FY 2024-25).

Key points:

• TDS Rate: 10% on the total payments made to partners, including salary, remuneration, bonus, commission, or interest.
• Timing: Deduction is required at the time of crediting the amount (including in the capital account maintained by the firm in the books of accounts) or actual payment, whichever is earlier.
• Threshold: No deduction if the total payments do not exceed in aggregate ₹20,000 in the financial year.
• Exclusion: Share of profit is not subject to this deduction.

Rationale behind the insertion of new section:

The Government’s rationale for introducing the new section is predominantly to address the current legislative gap regarding tax deductions on specific payments. By incorporating this section, it is proposed that these payments be subjected to TDS regulations. However, the underlying objective appears to be the establishment of a more orderly and timely system for maintaining and finalizing accounts, thereby mitigating the last-minute rush associated with income tax return submissions.

Potential challenges arising from this section:

1. Aggregate Deduction:

• The provisions of the new sections will be effective from AY 2025-26 (FY 2024-25), but the bill is pending in the Rajya Sabha as of now. Once approved by the Rajya Sabha and Hon’ble President, it will apply to FY 2024-25.
• Currently, tax deductions are pending, and after the Finance Act, 2024 is implemented, an aggregate deduction of 10% on the payments made over approximately 5 months to partners will apply which significantly increasing their financial burden.

2. Revision in Partnership Deed:

 All the payments made to the partners by its firm are in adherence to the partnership deed executed between the partner and firm. Now, with the introduction of new section and the section lifts the statutory obligation therefore, the partnership firms will have to revisit its partnership deed and if clause of statutory obligation on payment release to partners’ is absent then, it may have to re-draft the deed and amend the partnership deed within due time to comply with the provisions of the Income Tax Act, 1961.

 (For the information, from AY 2025-26, increase in limit of remuneration to working partner of a firm is changed u/s. 40(b)(v) through this finance bill No. (2), 2024 and to comply with this, partnership firm must change its deed for to amend the clause.) 

3. Additional Compliance by the Firm:

The Firm must file the ITR-5 form, disclosing payments to partners (such as remuneration, interest, bonus, commissions, and profit shares) along with their PANs. With the new section, the firm will also need to compute and file TDS returns under the same Act. This results in additional compliance for the firm and repetitive information collection for the department.

4. Partnership firm may be subject to penal action under provisions of Income Tax Act: 

Currently, the due date for filing the TDS return for the quarter ending 31st March 2025 is 31st May 2025, with the TDS deduction deadline set for 30th April 2025. Failure to file the TDS return or to deduct and remit TDS on time results in penalties, late fees, and interest on the TDS amount.

Additionally, the deadline for filing the Income Tax return is 31st July for non-audit firms and 31st October for audit firms, following the end of the relevant financial year.

With the introduction of this new section, firms whose remuneration is linked to profits and who finalize their accounts at the time of filing the ITR or just before will likely miss the TDS deduction and filing deadlines. Consequently, they will be deemed as defaulters, incurring late fees and interest on TDS payments, which could amount to approximately 4 months for non-audit firms and 7 months for audit firms. This imposes an additional financial burden on the firm, despite their best efforts to comply.

(Therefore, the Legislature’s indirect intent to regularize and finalize the books of accounts within a specific timeframe is underscored by this provision.)

Controversies:

From the above analysis, it can be said that the Government has made TDS mandatory on salary, remuneration, bonus, commission, or interest. However, withdrawal by the partner is excluded and the firm can pay the partner by way of monthly/quarterly withdrawal as suitable and delay the TDS implication until the remuneration will not be finalized based on the profit situation of the firm.

However, this will create the practical dilemma that the withdrawal made by the partner during the year on periodic basis would cover under the remuneration clause or not and tax would be deductible on that withdrawal part or not as many times withdrawal made by the partner will adjust against the remuneration and if this situation arise then on what amount the TDS should be deducted and when, is the moot question as of now.  However, one should have to draft the remuneration clause wisely in the partnership deed to get benefited.

Conclusion:

Therefore, the section introduced by the Government demands more amendments to make it more efficient and effective and the Government will have to relook into it before making it mandatory.