income tax
Executive Summary
Section 194T of the Income Tax Act, 1961, effective from April 1, 2025, introduces a requirement for Tax Deducted at Source (TDS) on specific payments made by partnership firms and Limited Liability Partnerships (LLPs) to their partners. Under this provision, firms must deduct TDS at a rate of 10% on the total salary, remuneration, commission, bonus, or interest paid or credited to a partner within a financial year if the aggregate amount exceeds ₹20,000. This new rule increases compliance obligations for firms, requiring them to manage tax deductions, deposits, and reporting carefully. Additionally, it may impact the liquidity of partners, as payments will now be subject to deductions at the source. Firms must adopt proper financial management strategies to comply with these updated tax regulations.
Introduction to Section 194T
Section 194T was introduced through the Finance Bill 2024 to ensure tax compliance in the partnership sector and expand the tax base. Previously, TDS was not applicable to payments made by firms to their partners, leading to inconsistencies in tax reporting. This provision will take effect from April 1, 2025, applying to Assessment Year (AY) 2026-27 and subsequent years, corresponding to Financial Year (FY) 2025-26. It aligns partner payments with existing TDS rules applicable to employee salaries under Section 192, promoting uniform tax collection.
Scope and Applicability
Section 194T applies to all 'firms' making payments to partners, including partnership firms registered under the Indian Partnership Act, 1932, and Limited Liability Partnerships (LLPs) under the LLP Act, 2008 (limited to Indian LLPs). The types of payments subject to TDS under this section include salary, remuneration, commission, bonus, and interest on capital contributions or loans. By covering various forms of financial compensation, this provision ensures greater tax transparency.
TDS Rate and Threshold
The TDS rate under Section 194T is 10% for resident partners, while a higher rate of 20% applies if the partner fails to provide their Permanent Account Number (PAN) or Aadhaar. TDS is applicable if the aggregate payments to a partner exceed ₹20,000 in a financial year.
Example Calculations:
• Ayush receives ₹12,000 in June and ₹15,000 in December → Total: ₹27,000 → TDS (10%) on ₹27,000 = ₹2,700
• Anand receives ₹18,000 as salary and ₹5,000 as interest → Total: ₹23,000 → TDS (10%) on ₹23,000 = ₹2,300
Firms must monitor cumulative payments throughout the financial year to determine TDS applicability.
Timing of TDS Deduction
TDS must be deducted at the earlier of when the sum is credited to the partner’s account (including the capital account) or when the payment is made through cash, cheque, draft, or other modes. For instance, if a firm credits a bonus of ₹40,000 to a partner’s capital account on March 31, 2026, but disburses the actual payment in May 2026, TDS will be applicable on March 31, 2026.
Compliance Requirements for Firms
Firms and LLPs must adhere to several compliance obligations, including obtaining a TAN (if applicable), assessing partner payments on an ongoing basis, and deducting TDS at 10% if the threshold is exceeded. They must also deposit TDS within the prescribed time, maintain detailed records of payments and TDS, and file quarterly TDS returns (Form 26Q). Additionally, issuing TDS certificates (Form 16A) is required, while educating partners about Section 194T is recommended. Ensuring timely TDS deposits and accurate reporting is crucial to avoiding penalties.
Exemptions and Non-Applicability
The exemptions under Section 194T from TDS include the repayment of capital account balances, capital withdrawals by a partner, profit distribution, and the reimbursement of business expenses incurred by partners. These exclusions emphasize that TDS is applicable solely to income-related payments and does not extend to returns on investment.
Conclusion
Section 194T introduces a significant tax compliance requirement for partnership firms and LLPs, ensuring uniform TDS deductions on payments exceeding ₹20,000. While compliance obligations may increase, firms can manage the transition effectively through proactive planning.
Key Recommendations:
• Obtain TAN: Ensure the firm has a valid Tax Deduction and Collection Account Number.
• Update Accounting Systems: Implement systems to track partner payments and TDS deductions.
• Establish TDS Policies: Set clear internal policies for TDS deduction, deposit, and compliance.
• Ensure Timely Deposits: Follow the "earlier of" rule and deposit TDS within deadlines.
• Maintain Records: Keep detailed records of payments and TDS activities for audit compliance.
• File TDS Returns: Submit Form 26Q quarterly to comply with tax laws.
• Issue TDS Certificates: Provide Form 16A to partners for tax credit claims.
• Educate Partners: Inform partners about the new TDS provisions to ensure smooth implementation.
• Seek Professional Advice: Consult tax professionals for firm-specific guidance.
By implementing these measures, firms can ensure compliance with Section 194T while maintaining financial efficiency and transparency.