Section 43B(h): New MSME Rule, Applicability & Examples

Section 43B(h) of the Income Tax Act, effective from April 1, 2024, introduces new tax deduction rules for payments to Micro and Small Enterprises (MSEs). The blog explains how businesses must comply with payment timelines and the tax implications. By understanding these provisions, businesses can avoid penalties and ensure timely payments, benefiting both their financial stability and MSME relationships.

Introduction 

From 1 April 2024 onwards, it will be impacting how businesses make payments to Micro and Small Enterprises (MSEs) due to Section 43B(h) of the Income Tax Act that has been introduced by the Finance Act 2023. This would mean tax deductions for actual payment made which is expected to ensure prompt payments and also aid the ease of cash flow for micro, small, and medium enterprises (MSMEs).

Section 43B(h) of the Income Tax Act

Section 43B(h) permitting a deduction for a business against any amount owed to Micro and Small Enterprises (MSEs) for goods or services, which the business pays within the time laid down in the Micro, Small, and Medium Enterprises Development (MSMED) Act, 2006. This amendment, effective from April 1, 2024, will be a part of the attempts to ease working capital pressure faced by the MSME sector and to encourage timely payments. It will apply from the assessment year 2024-2025 and onwards.

New Deduction Norms for Payments to MSMEs

New deduction norms for payments to MSMEs under Section 43B(h) of the Finance Act state that outstanding dues to Micro and Small Enterprises (MSEs) will not be eligible for tax deduction in the applicable period unless paid within the time frame prescribed by Section 15 of the MSMED Act. Payments to MSMEs aim to link tax benefits to the actual payment date, encouraging timely settlements.

MSME Section 43B(h)

MSME Section 43B(h) introduces a provision stating that any amount due to a micro or small enterprise will not qualify for deduction until the year of actual payment. It specifies that if the payment is not made within the timeframe set by Section 15 of the MSMED Act, the deduction will be disallowed regardless of the accounting method followed.

MSME Turnover Limit

A micro-enterprise is defined as an enterprise with an investment in plant and machinery of up to 1 crore and a turnover not exceeding 5 crores, whereas a small enterprise is one with an investment of up to 10 crores and a turnover not exceeding 50 crores.

Section 43B(h) Applicability

This clause is applicable when an enterprise purchases goods or services from a Micro or Small Enterprise registered under the MSMED Act, 2006. It is important to note that the buyer’s registration under the MSMED Act is not required. The provisions of clause (h) of section 43B shall come into force on April 1, 2024.

Example: Mr. A (not registered under the MSMED Act) bought goods from Mr. B (registered under the MSMED Act). Is Section 43B(h) applicable?

Yes, Section 43B(h) is applicable since the supplier is registered under the MSMED Act.

Section 43B(h) Applicability on Traders

As may be derived from office memorandum no. 5/2(2)/2021-E/P & G/Policy, dated 2nd July, 2021, wholesale and retail traders are allowed Udyam registration for the purpose of availing of the benefits of Priority Sector Lending only. Therefore, Section 43B(h) does not apply to the outstanding dues payable to traders according to the MSMED Act’s definition of an enterprise.

Section 43B(h) Effective Date

Section 43B(h) will come into effect from April 1, 2024, impacting the assessment year (AY) 2024-2025 and beyond. Businesses will need to follow the new 45 days payment rules starting from the financial year (FY) 2023-2024 to ensure timely payments to Micro and Small Enterprises (MSEs).

Example: Mr. A bought goods from Mr. B on 31.03.23. Is Section 43B(h) applicable?

No, Section 43B(h) does not apply to purchases made before 31.03.2023.

Section 43B(h) Time Limit

According to the Section 15 of MSMED Act, 2006; a business enterprise is bound to pay an MSME within a period of 45 days in case there is a written agreement. Where no written agreement exists, the entity is obliged to pay within 15 days. In case any written agreement exists, the payment shall be made according to the terms as defined in such an agreement, but not exceeding 45 days.

Example of Section 43B(h) 

Here’s the table showing various scenarios based on the MSME Act and Section 43B(h), along with the corresponding credit periods, due dates, actual payment dates, and the applicable fiscal year for deductions:

Sr. No.	Date of Acceptance of Goods/Services	Period (Days)	Due Date under MSME Act	Actual Payment Date	Deduction Applicable in FY
1.	29/03/2024	60	13/05/2024	25/05/2024	FY 2024-25
2.	01/04/2024	45	16/05/2024	21/05/2024	FY 2024-25
3.	31/01/2024	15	15/02/2024	20/02/2024	FY 2023-24
4.	11/09/2023	20	01/02/2024	03/10/2023	FY 2023-24
5.	30/11/2023	30	30/12/2023	20/12/2023	FY 2023-24
6.	21/04/2024	40	31/05/2024	20/06/2024	FY 2024-25
7.	15/12/2023	–	30/12/2023	05/04/2024	FY 2024-25
8.	10/11/2023	–	25/11/2023	30/11/2023	FY 2023-24

Penalties For Failure To Pay MSMEs 

In the event of late payment to an MSME, the charge penalty is calculated with compound interest at a rate of three times the bank rate set by the Reserve Bank of India (RBI).

From the day following the lapse of 15 days from the date of acceptance or deemed acceptance of the goods or services, according to the agreement or as per MSME Act, interest shall be applicable.

However, such interest is not deductible as expenditure under the Income-tax Act (ITA), 1961.

Benefits of Section 43B(h)

• Timely Settlements: Section 43B(h) encourages big businesses to pay MSMEs within the time frame—15 days without a specific agreement, and 45 days in a case with a written agreement. This ensures timely payments to MSMEs for financial stability and growth.
• Better Negotiation Powers: This is why the provision gives an edge to MSMEs in negotiating terms of payments with larger businesses, for they can confidently demand that the payment be made to them and be assured that there is no penalty for late payment.
• Reduced Disputes: Timely payments reduce the chances of disputes regarding outstanding dues, thus benefiting both small and large companies that save on time and resources that could have been used to fight their legal battles.

MSME Registration Status

You can verify MSME registration and the enterprise type (Micro/Small/Medium) by entering the registration number on the MSME portal at udyamregistration.gov.in/Udyam_Verify.aspx.

Implications on GST Component if Sum Payable to MSE is Disallowed

When one assesses the tax implications of the payments being made to a Micro-Small-Enterprise (MSE) under the GST, it will make a distinction on the basis of whether or not Input Tax Credit (ITC) was claimed. Here’s how the implications work out:

Situation	Implication of GST Component
GST Claimed as Input Tax Credit (ITC)	Only the amount excluding GST is subject to the non-deductible clause under Section 43B(h). The GST portion is treated separately and recognised as ITC in the records.
GST Not Claimed as ITC	For the portion of GST which is not claimed as ITC and is recorded as expense in Profit and Loss Account, the deduction will depend on the fulfilment of the condition of section 43B(h) for the whole payment that includes GST.

GST now allows businesses to claim input tax credit.

• Condition: The enterprise claims Input Tax Credit (ITC) in respect of GST paid for purchases from an MSE as input tax credit.
• Implication: Under section 43B(h) of the income tax, only base amount is taken into account and not the GST for deductions. If payment to the MSE delays the base amount would be disallowed for deduction until payment is made.
• Example: If an amount of ₹1,20,000 is payable to an MSE, in which ₹20,000 is taken as GST, whereas if GST is taken as ITC then under section 43B(h) disallowance will apply only to ₹1,00,000 (base amount) if such an amount does not get paid in defined time.

Input Tax Credit Exclusion for GST

• Condition: The company does not take GST as Input Tax Credit but recognizes the gross expense including that of GST as expense.
• Effects: This entire payment including GST will be subject to the provisions of Section 43B(h). If this payment including GST is not made within the specified time period, the entire amount will be disallowed as a deduction until it is paid.
• Example: So now if any MSE is supposed to give rupees 1,20,000 which includes rupees 20,000 of GST, and the GST is not claimed as Input Tax Credit but as expense itself, the full sum of 1,20,000 would be subject to disallowance under section 43B(h), if payment was not effected within the stipulated time. 

Implications of Section 43B(h) on Capital Expenditure

Section 43B deals with the tax treatment of all types of expenditure subject to the Income Tax Act, be they revenue or capital expenditures, in certain specified situations. Here is a detailed examination of how Section 43B(h) affects capital expenditures: 

Scope of Section 43B(h)

The effect of this section now extends to any amount that may be payable and may typically be deductive as under the Income Tax Act. It means that when payment is made to a Micro or Small Enterprise (MSE) for acquisition of a capital asset, the deduction shall follow the prescribed provisions for capital expenditure under the Act.

Application to Capital Expenditures 

Under Section 43B(h), payment for capital assets to MSEs is allowed where full deductions under Sections 30 to 36 of the Income Tax Act are allowed. It implies that payments to MSEs for capital assets must also satisfy payment conditions of Section 43B(h) to be eligible for deduction. 

Deductions for Particular Capital Expenditures

Certain capital expenditures, fully deductible under Section 35AD (dealing with specific business capital expenditures) and possibly capital investments in scientific research, are governed under Section 43B(h). For such capital expenditures, deduction will be permitted in the year in which an actual payment is made to the MSE, subject to the stipulations contained in Section 43B(h).

Conclusion

Section 43B(h) helps better financial stability for Micro and Small Enterprises (MSEs) by promoting timely payments and reducing cash flow issues. It encourages timely payments with tax benefits being tied to actual payments, a syndicate between businesses and their treatments minimizes disputes and delays regarding penalties. Therefore it is important for companies dealing with MSEs to know the provisions to comply. Professional assistance can ease the burden if you wish to understand and manage these requirements. Reach out for expert assistance on managing tax compliance and MSME payments.

FAQs:

Who is affected by Section 43B(h)?

Section 43B(h) applies to businesses that owe payments to Micro and Small Enterprises (MSEs) for goods or services. It impacts both the payer (business) and the recipient (MSE) by linking deductions to the timing of payments.

What are the effects of Section 43B(h) of the Income Tax Act?

The section affects tax deductions for businesses, disallowing deductions on unpaid dues to MSEs until they are actually paid. This encourages timely payments to MSMEs and reduces delays in their cash flow.

What is the guidance note on Section 43B(h)?

The guidance note on Section 43B(h) provides clarity on how businesses must treat payments to MSEs under the Income Tax Act. It details how payments should be linked with actual settlements and the tax implications of late payments.

What is the compliance of Section 43B(h)?

Compliance with Section 43B(h) requires businesses to ensure that payments to MSEs are made within the prescribed time limits (15 days without an agreement or 45 days with an agreement) to receive tax deductions.

What is Section 43B(h) in the audit report?

In the audit report, Section 43B(h) reflects the treatment of payments to MSEs and confirms whether businesses have complied with the payment deadlines to claim deductions. Auditors may highlight non-compliance if payments are not made on time.