The Finance Act, 2023 introduced a crucial amendment to Section 43B of the Income Tax Act, 1961 by inserting clause (h), specifically targeting payments to Micro and Small Enterprises (MSEs). This change aims to ensure timely payments to such enterprises and is aligned with the broader policy push to support India’s MSME sector. However, it also has significant implications for businesses and their tax liabilities, especially during financial year-end closing and income computation.
What is Section 43B(h)?
Section 43B outlines specific expenses that are allowed as deductions only on actual payment, irrespective of the method of accounting followed by the taxpayer. The newly introduced clause (h) under this section now includes payments to Micro and Small Enterprises (MSEs) covered under the Micro, Small and Medium Enterprises Development (MSMED) Act, 2006.
According to the amendment, any sum payable by an assessee to an MSE for goods supplied or services rendered shall be allowed as a deduction only if the payment is made within the time limit prescribed under Section 15 of the MSMED Act—i.e., within 15 days, or 45 days if agreed in writing.
Implications on Tax Computation
From Assessment Year 2024–25 onwards, if a taxpayer fails to pay an MSE within the stipulated MSMED Act timeline, the corresponding expense will not be allowed as a deduction in the year of accrual. It will be allowed only in the year when the actual payment is made. This can significantly affect the income reported in tax returns and increase taxable profits if payments are delayed beyond the permitted time.
It is important to note that this disallowance is not limited to related-party transactions or tax audit cases. Even small businesses, LLPs, and companies not covered under tax audit provisions must adhere to this requirement.
Key Compliance Considerations
- Identify MSME Vendors: Businesses must proactively identify vendors registered as Micro or Small Enterprises under the MSMED Act. Medium enterprises are not covered under this provision.
- Obtain Udyam Registration Proof: Payments will be treated under this clause only if the vendor is registered and holds a valid Udyam Registration Certificate. Keeping this documentation on record is essential.
- Revise Payment Terms and Policies: Companies may need to align their procurement and payment policies with the 15/45-day rule to avoid disallowance of expenses.
- Accounting and Audit Adjustments: At the end of the financial year, special attention must be given during finalisation to track outstanding dues to MSEs. Auditors are also expected to report on payments to MSEs as part of CARO (Companies Auditor’s Report Order) disclosures.
Strategic Impact for Businesses
While the intent of the amendment is to promote the health of the MSME sector by ensuring prompt payments, it imposes additional compliance and cash flow planning requirements on the paying entities. For taxpayers, timely vendor identification, system-based flags, and financial planning become essential tools to maintain deductibility of expenses and avoid tax outflows.
Businesses that fail to adjust their internal systems may face unintended consequences such as increased taxable income, interest burden, and possible scrutiny during assessments.
Conclusion
Section 43B(h) brings much-needed discipline to payment cycles in favour of small businesses, in line with the government’s vision to strengthen the MSME ecosystem. For taxpayers, this means re-examining vendor classification, payment timelines, and documentation practices to ensure continued deductibility of genuine business expenses. While it may demand more vigilance and better internal controls, it is ultimately a step towards a more equitable and responsible business environment.
