TaxTMI 
TaxTMI 
Procedural Compliance and Taxation of Partnership Firms : Clause 326 of the Income Tax Bill, 2025 Vs. Section 185 of the Income-tax Act, 1961
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....These provisions represent the legislature's approach to ensuring procedural discipline among partnership firms and preventing tax avoidance through improper structuring of remuneration to partners. The analysis of these provisions is significant, as it not only reveals the continuity and changes in legislative intent but also impacts the computation of taxable income for both firms and their partners, with wide-ranging implications for tax administration and compliance. Objective and Purpose The primary objective behind both Clause 326 of the Income Tax Bill, 2025, and Section 185 of the Income-tax Act, 1961, is to enforce compliance with the prescribed procedural requirements for partnership firms to be eligible for certain tax bene....
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....lined in these sections will prevail, regardless of any other potentially conflicting provision. b. Trigger for Applicability: Non-compliance with Section 325/184 The trigger for the application of both provisions is the firm's failure to comply with the requirements of Section 325 (in the 2025 Bill) or Section 184 (in the 1961 Act). These sections lay down procedural prerequisites such as submission of the partnership deed, disclosure of partner particulars, and other documentary requirements. Non-compliance may be due to failure to submit the partnership deed, lack of proper documentation, or non-fulfillment of other prescribed conditions. The rationale is to ensure that only those firms that maintain transparency and fulfill sta....
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.... the firm (by disallowing the deduction) and the partners (by including it in their income). It also prevents the partners from being unfairly taxed on amounts that the firm could not claim as a deduction due to its own procedural lapses. e. Differences in Cross-Referencing and Structure While the substantive effect of both provisions is similar, the references differ due to the renumbering and possible restructuring in the 2025 Bill. Clause 326 refers to Clause 325 (likely the new procedural compliance section) and Section 26(2)(g) (presumably the new provision taxing partner's remuneration), while Section 185 refers to Section 184 and Section 28(v) respectively. This is a technical update rather than a substantive change, reflectin....
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....ompliance with all procedural requirements under the Act. For example, if a firm pays substantial salaries or interest to its partners, non-compliance with Clause 325/Section 184 could result in a large portion of its business income being subject to tax without the benefit of these deductions, impacting cash flows and overall tax planning. b. Impact on Partners The partners are shielded from adverse tax consequences in that the amounts paid to them by the non-compliant firm are not taxed in their hands. This avoids double taxation and ensures fairness, as the partners should not be penalized for the firm's failure to comply with procedural requirements, provided the amounts are not otherwise taxable. c. Compliance Requirements ....
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....ural compliance) and Section 26(2)(g) (partner's income), while Section 185 refers to Section 184 and Section 28(v) respectively. This is likely due to renumbering and updating of the statutory framework in the new Bill. * Terminology: The language in both provisions is substantially similar, with only minor differences in phrasing. The 2025 Bill's language may be more streamlined to align with modern drafting standards. c. Historical Evolution It is noteworthy that Section 185 of the 1961 Act was amended by the Finance Act, 2003. Prior to the amendment, non-compliant firms were assessed as associations of persons (AOPs), which could have significant implications for the rate and manner of assessment. Post-2003, the focus shifte....