Clause 393 Tax to be deducted at source.

Income Tax Bill, 2025

Introduction

Clause 393(3)[Table: S.No. 7] of the Income Tax Bill, 2025, and the recently inserted Section 194T of the Income-tax Act, 1961, both address the tax deduction at source (TDS) on payments made by a partnership firm to its partners. The introduction of Section 194T, effective from 1 April 2025, represents a significant legislative development, aligning with the broader overhaul proposed in the Income Tax Bill, 2025. This commentary undertakes a comprehensive analysis of Clause 393(3)[Table: S.No. 7] of the new Bill, followed by a comparative study with Section 194T as inserted by the Finance (No. 2) Act, 2024. The discussion explores the legislative intent, the mechanics of the provisions, interpretative issues, practical implications, and their place within the evolving Indian tax landscape.

Objective and Purpose

The primary objective behind both Clause 393(3)[Table: S.No. 7] and Section 194T is to ensure tax compliance and transparency regarding the income distributed by partnership firms to their partners. Historically, such payments-particularly interest, salary, commission, remuneration, and bonus-were deductible business expenditures for the firm and taxable in the hands of the partner. However, there was no mechanism for TDS on such payments, potentially leading to underreporting or deferral of tax liability. The new provisions seek to plug this gap by mandating TDS, thereby ensuring early tax collection, improved traceability, and better compliance.

This legislative move is consistent with the government's policy objective of broadening the TDS net, minimizing tax evasion, and aligning TDS provisions for partnerships with those applicable to other entities making similar payments. It also reflects a harmonization effort as part of the comprehensive Income Tax Bill, 2025, which seeks to modernize and rationalize the income-tax regime in India.

Detailed Analysis of Clause 393(3)[Table: S.No. 7] of the Income Tax Bill, 2025

Text of the Provision

Clause 393(3)[Table: S.No. 7] provides as follows:

• Nature of Income or Sum: Any sum in the nature of salary, remuneration, commission, bonus or interest paid to a partner of the firm or credited to his account (including capital account).
• Payer: Any person, being a firm.
• Rate: 10%.
• Threshold Limit: Rs. 20,000.

Key Elements and Interpretative Issues

Scope of Payments Covered

The provision covers a comprehensive range of payments-salary, remuneration, commission, bonus, and interest-made by a partnership firm to its partners. The inclusion of credits to the capital account ensures that even non-cash or book entries are within the TDS net, preventing avoidance through mere accounting entries. The phrase "including capital account" is significant, as partners are often credited their share of interest or remuneration directly to their capital accounts, rather than being paid out.

Timing of Deduction

TDS is required to be deducted at the earlier of two events:

(i) credit of such sum to the partner's account (including the capital account), or

(ii) actual payment. This "whichever is earlier" rule is consistent with other TDS provisions and is designed to prevent deferral of TDS by delaying payment.

Threshold Limit

No TDS is required if the aggregate of such sums credited or paid to a partner does not exceed Rs. 20,000 during the tax year. This threshold is intended to reduce the compliance burden for small-value transactions and is in line with thresholds for other TDS provisions.

Rate of TDS

The rate of TDS is fixed at 10%. This aligns with the standard TDS rate for interest and professional payments, balancing the need for effective tax collection with fairness to taxpayers.

Person Responsible for Deduction

The obligation is cast on the firm making the payment or credit. This is logical, as the firm is the entity making the deductible expenditure and has the necessary knowledge and control over the transaction.

Characterization of Payments

A potential area of interpretative complexity is the characterization of payments. Only sums "in the nature of salary, remuneration, commission, bonus or interest" are covered. Pure profit-sharing distributions (i.e., the partner's share of the firm's profits) are not subject to TDS under this provision, as such amounts are exempt in the hands of the partner under existing law (Section 10(2A) of the Income-tax Act, 1961, and corresponding provisions in the Bill).

Interaction with Other Provisions

The provision is subject to the general machinery of TDS, including requirements for deposit of TDS, issuance of TDS certificates, filing of TDS returns, and consequences of failure to deduct or deposit TDS. It is also subject to the general provisions for non-deduction or lower deduction upon submission of declarations by the recipient.

Exemptions and Exclusions

Clause 393(4) (Table: S.No. 7) provides for certain exemptions from TDS under this provision. For instance, payments made by the firm to a partner may be exempt from TDS if the partner furnishes a declaration that their estimated total income is below the taxable limit, in the prescribed form and manner, and subject to the aggregate payments not exceeding the basic exemption limit.

Ambiguities and Potential Issues

• Aggregation Across Multiple Firms: The threshold applies per firm, per partner. There is no aggregation across firms, which may allow a partner with interests in multiple firms to receive amounts below the threshold from each without TDS.
• Nature of Payment: Disputes may arise regarding whether a particular payment is "remuneration" versus profit share, particularly where partnership deeds are not clear.
• Accounting Entries: The inclusion of credits to the capital account closes a potential loophole, but may create practical challenges in tracking and reconciling TDS obligations, especially where multiple credits are made during the year.

Practical Implications

For Partnership Firms

• Increased Compliance: Firms must now track all credits and payments to each partner for the purposes of TDS, even if credited to the capital account.
• Record Keeping: Detailed records must be maintained to demonstrate compliance with the threshold and timely deduction/deposit of TDS.
• Cash Flow Impact: Immediate deduction of TDS may affect the cash flows of partners, who may need to claim refunds if their actual tax liability is lower.

For Partners

• Advance Tax Credit: TDS deducted by the firm will be available as credit against the partner's ultimate tax liability.
• Refund Scenario: Where the partner's total income is below the taxable limit, or where the actual liability is less than the TDS deducted, a refund claim will be necessary.
• Declaration for Non-deduction: Partners can furnish declarations (in prescribed form) to avoid TDS if their total income is below the taxable limit, subject to conditions.

For Tax Administration

• Enhanced Traceability: The requirement of TDS ensures better traceability of income distributed by firms to partners.
• Plugging Revenue Leakages: The provision is expected to minimize tax evasion by ensuring that such payments are reported and taxed at the earliest instance.

Detailed Analysis of Section 194T of the Income-tax Act, 1961

Text of the Provision

Section 194T, inserted by the Finance (No. 2) Act, 2024, with effect from 1 April 2025, reads:

• (1) Any person, being a firm, responsible for paying any sum in the nature of salary, remuneration, commission, bonus or interest to a partner of the firm, shall, at the time of credit of such sum to the account of the partner (including the capital account) or at the time of payment thereof, whichever is earlier, deduct income-tax thereon at the rate of ten per cent.
• (2) No deduction shall be made under sub-section (1) where such sum or the aggregate of such sums credited or paid or likely to be credited or paid to the partner of the firm does not exceed twenty thousand rupees during the financial year.

Key Features and Analysis

• Substantive Parity with Clause 393(3)[Table: S.No. 7]: The language of Section 194T is functionally identical to the corresponding clause in the Income Tax Bill, 2025.
• Threshold and Rate: The threshold of Rs. 20,000 and the 10% TDS rate mirror the new Bill.
• Timing and Scope: The "whichever is earlier" rule for credit or payment, and the inclusion of credits to the capital account, are identical.
• Legislative Context: Section 194T was inserted as a transitional measure pending the enactment of the new Income Tax Bill, 2025, ensuring continuity and immediate implementation of the policy objective.

Implementation Issues and Compliance

The introduction of Section 194T requires partnership firms to adapt their accounting and payment practices to ensure timely TDS deduction and compliance with reporting and deposit requirements. Firms must also obtain PAN details of partners and ensure proper reconciliation of credits/payments vis-`a-vis the threshold.

Structural and Substantive Comparison

Key Points of Convergence

• Both provisions are nearly identical in substantive content and legislative intent.
• Both apply to all forms of specified payments by a firm to its partners, including book entries.
• The threshold and rate are the same, ensuring parity for taxpayers during the transition from the IT Act, 1961 to the new Code.

Key Points of Divergence or Potential Issues

• Transitional Overlap: There may be a period of overlap or transition where both provisions could be in force, depending on the effective date of the new Code.
• Procedural Differences: While the substantive provisions are identical, the procedures for declarations, reporting, and administration may differ between the two statutes.
• Interpretation under New Code: The new Code may introduce new definitions, interpretative rules, or administrative procedures that affect the application of Clause 393(3)[Table: S.No. 7].

Comparison with Other TDS Provisions

The structure of these provisions is consistent with other TDS sections, such as Section 194A (interest other than securities), Section 194J (fees for professional/technical services), and Section 194H (commission and brokerage), all of which have similar "whichever is earlier" rules, threshold limits, and 10% rates.

International and Jurisdictional Comparison

Internationally, many jurisdictions do not require withholding tax on payments by partnerships to partners, treating such distributions as pass-through income. The Indian approach reflects a more robust compliance-oriented framework, emphasizing early tax collection and reporting, in line with the country's broader TDS regime.

Conclusion

Clause 393(3)[Table: S.No. 7] of the Income Tax Bill, 2025, and Section 194T of the Income-tax Act, 1961, represent a significant step in strengthening the TDS framework for partnership firms. By introducing a mandatory TDS requirement on specified payments to partners, the legislature aims to ensure timely tax collection, minimize evasion, and enhance the transparency of partnership income flows. The provisions are substantively identical, ensuring continuity across the transition to the new tax code.

Practical challenges may arise in implementation, particularly regarding the tracking of credits to capital accounts and the characterization of payments. However, the clear structure, reasonable threshold, and alignment with existing TDS mechanisms should facilitate compliance for most firms. Going forward, judicial and administrative clarification may be required on nuanced issues such as aggregation rules, the scope of declarations for non-deduction, and the treatment of complex partnership arrangements.

Full Text:

Clause 393 Tax to be deducted at source.