Mastering Section 43B(h): MSME 45-Day Payment Rule and Compliance Tips

Overview : The Finance Act's Section 43 B(h) requires big businesses to pay their dues to MSMEs within the given time period, which is 15 days without agreement and 45 days from the agreement signing date. The rule is called the '45 Day Payment Rule', helping MSMEs receive their payments on time. Timely payment is important for cash flow, sustainability and growth of MSMEs. As a result, this section enforces a strict payment schedule to stabilise MSMEs and help them thrive well. The blog comprehensively elucidates the MSME 45-Day Payment Rule Applicability, Benefits and Late Payment Penalties in detail.

Micro, small, and medium enterprises (MSMEs) play a vital role in the growth of a country, significantly contributing to the country's GDP and, hence, fueling the economy. This sector is a major contributor to the Indian economy, and therefore, the government makes all possible efforts to give it a pace. In the same direction, the Finance Act, 2023 included the MSME 45-day payment rule under Section 43B(h) and has been in effect since April, 2024.

Section 43B(h) mandates timely payments to Micro and Small Enterprises (MSEs). In other words, this rule thus mandates timely payments to MSMEs, therefore, affecting tax deductions and business compliance. This blog elucidates key implications, benefits and compliance tips for Section 43B(h).

Section 43B(h): An Overview

Section 43B(h) gives a protective shield to Micro and Small Enterprises (MSEs) by ensuring that they can get payments within a fixed time frame from big businesses. This provision requires payments to MSEs to be made promptly, regardless of the accounting method followed by the paying business. However, it is important to note that Section 43B(h) does not apply to wholesale and retail traders; hence, the legislation is for manufacturing and service providers and not for traders. MSME Section 43B(h) enforces a strict payment schedule to stabilise MSEs and create a level playing field.

Section 43B(h) of Income Tax Act: Applicability

Effective from April 1, 2024, Section 43B(h) is applied to payments made to Micro, Small and Medium Enterprises (MSMEs) as defined under MSMED Act, 2006. So, any business dealing with MSMEs must comply with the payment deadlines specified in this section. Only the selling business needs to be registered under MSMED Act for Section 43B(h) to kick in. Both public and private companies need to comply to ensure fair treatment of MSMEs across the board. Large enterprises are more affected by this section.

Any business dealing with MSEs must be vigilant with payments to avoid penalties and tax deductions. The interest charged on late payments is 3 times the bank rate notified by RBI, so there is a direct connection between banking rates and late payment penalties. A micro and small enterprise should have an investment in plant and machinery of not more than INR 10 million, with a turnover of less than INR 50 million. This will help businesses determine their obligations under Section 43B(h) for a micro or small enterprise.

Payment Deadlines Under Section 43B(H)

Under MSME Section 43B(h), payments to MSMEs should be made within 45 days from the date of invoice or agreement as per MSME payment rules. If there is a written agreement in place, payments should be made as per the agreed date or within 45 days from the purchase date. In case there is no any written agreement, businesses are obliged to make payment within 15 days of accepting the goods or services. Meeting these payment timelines will avoid increased taxable income and ensure deductions.

The Finance Act 2024 plays a key role in enforcing these payment deadlines. In case of failing to meet these deadlines, businesses may attract penalties and fines including disallowance of deductions on unpaid amounts during income tax returns filings. Businesses should have robust payment processes to make payments timely and keep legal & financial consequences away.

For instance, if a business accepts goods on March 29, 2024 with 60 days credit period and pays on May 25, 2024, the payment will be eligible for deduction in FY 2024-25. This example shows that businesses should monitor payment timelines and pay as per actual payment date to optimize tax liability and have a smooth payment cycle.

Deduction Norms for Payments to Micro and Small Enterprises

The norms for claiming deductions under Section 43B(h) is linked to the payment timeline. Deductions for payments made to MSMEs can only be claimed in the year those payments are made and not in the year those payments are incurred. This means businesses should pay MSMEs in time to avail tax deductions in the same financial year. Failure to pay MSMEs within the deadline will treat the unpaid amount as taxable income for the payer.

Moreover, MSMED Act says that payments made to MSEs will be disallowed if not made within the specified time frame. This will affect the tax deductions businesses can claim, so prompt payments are necessary. Timely payments will help businesses to plan their tax and avoid penalties for delay.

Late Payment Penalties

The consequences of late payments under msme Section 43B(h) are severe. Failing to comply with the payment deadline will result in legal penalties and the disallowance of deductions on unpaid amounts during tax filings. Late payments will also result in penalties and interest, which will impact the company's financials. If payments to MSMEs are not made within 45 days, companies will not be able to deduct those payments from their books.

Legal penalties include interest charged at 3 times the bank rate notified by RBI for late payments including compound interest which may require you to pay compound interest. Interest will be due as per agreement terms or after 15 days from acceptance of goods or services by the buyer.

Firms should have systems in place to track outstanding payments and have a smooth payment cycle to avoid these penalties. Payments not made within the prescribed timeframe will also be added to the taxpayer’s delayed payment taxable income and will impact their overall GST liability.

GST and Input Tax Credit

Section 43B(h) has significant implications for GST and input tax credit claims. Businesses should ensure timely payments to MSMEs as per MSMED Act payment timelines and claim Input Tax Credits. If payments are delayed beyond 45 days, businesses cannot deduct such payments and will impact their GST input tax claims. Accurate record-keeping and compliance with payment timelines are key.

Entities should maintain precise records of MSME payments to avail tax benefits under Section 43B(h) within the GST framework. Section 43B(h) restricts the timing of deductions but does not restrict claim of input tax credits for GST component of payments to MSMEs if allowed under Income Tax Act. This distinction will help businesses to plan their tax and comply.

Examples Illustrating Section 43B(h)

To illustrate Section 43B(h), consider a scenario where goods are accepted on March 29, 2024, with a 60-day credit period, and payment is made on May 25, 2024. The payment will be eligible for deduction in FY 2024-25. This example shows that businesses should stick to payment timelines to have tax deductions align with actual payment dates.

Another example is a payment made to an MSE on June 15, 2024, after the due date of April 10, 2024. This payment will be disallowed for FY 2023-24 but can be claimed in the next financial year when the actual payment is made. These examples show the importance of timely payments to micro and small enterprises to claim deductions.

Benefits for Business

Following the MSME 45 days payment rule has numerous benefits for business. Timely cash flow, reduced financial stress and better budgeting are some of the advantages given by this rule. On-time payments to MSMEs, ensures timely payments, allows larger enterprises to improve their payment practices and to reduce cash flow issues for smaller businesses.

The 45-day payment rule also aims to relieve financial stress for MSEs by ensuring they get timely payment. For larger companies this rule enables tax expense claims and optimizes tax liabilities, benefits both MSMEs and larger enterprises.

How can you ensure compliance with Section 43B(h)?

Compliance with Section 43B(h) requires meticulous record-keeping and adherence to payment terms. Business entities should keep precise records of transactions with MSMEs to comply effectively. Documented agreement clarifies payment terms and helps businesses to manage their obligation under Section 43B(h). This rule encourages larger companies to have fair business practices, ensures timely settlement with their MSME partners.

Legal provisions in the rule provides MSMEs a way to seek accountability for delayed payments, and improves their bargaining power. Regular training and updates for staff on compliance matters help adhere to Section 43B(h) requirements. The rule has provision for dispute resolution, facilitates quicker resolution in favour of MSMEs.

Check MSME Registration Status

To comply with Section 43B(h), it is necessary for businesses to check the registration status of their MSME suppliers. This can be done by visiting the official Udyam Registration portal of Government of India. The portal provides a user-friendly interface for businesses to easily find the registration status of their MSME suppliers. Checking MSME registration status is essential to claim deductions under Section 43B(h) and avoid penalties. Checking MSME registration status ensures compliance with Section 43B(h) and smooth payment process.

Capital Expenditure

Section 43B(h) also impacts capital expenditure. Any capital expenditure is deductible under Income Tax Act if actual payment is made, provided it is not within specified time limit to MSMEs. Such expenses can only be deducted in the year they are paid if not made within the specified time. However, depreciation allowance on capital expenditure is not impacted by Section 43B(h), so can be claimed regardless of payment timelines. Understanding this difference helps businesses to plan taxes and finances effectively.

Conclusion

In summary Section 43B(h) is an important legislation to protect MSMEs by helping them obtain timely payments and thus can operate smoothly. Adherence to payment timelines under this section is mandatory for businesses to avoid penalties, optimize tax deductions and to have smooth financial operations. Impact of Section 43B(h) is on various aspects of business finance including GST, input tax credit and capital expenditure.

By understanding the requirements and implications of Section 43B(h), businesses can improve their payment practices, and support MSME's financial stability and overall financial health. Having a robust compliance strategy and accurate records is key to navigating this legislation and reaping its benefits.

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Setindiabiz Editorial Team is a multidisciplinary collective of Chartered Accountants, Company Secretaries, and Advocates offering authoritative insights on India’s regulatory and business landscape. With decades of experience in compliance, taxation, and advisory, they empower entrepreneurs and enterprises to make informed decisions.