Section 40(a)(i): Exception From Deducting TDS On Payment To Non-Resident

The expenditure incurred by businesses is allowed as a deduction while computing the taxable income of the entity. However, if there is a failure to deduct TDS on such expenditure wherever applicable, then the deduction against such expenditure is disallowed. The provision for this disallowance is covered under section 40 of the Income Tax Act, 1961.

In this article, we will discuss and understand the provisions of section 40(a)(i) which deals with payments made to Non-Residents against which TDS has not been deducted.

What Is Section 40(a)(i) Of The Income Tax Act 1961?

Section 40(a)(i) of the Income Tax Act, 1961 disallows expenditure towards interest, royalty, fee for technical services or any other sum subjected to TDS, and payable:

• Outside India
• In India to a non-resident individual or a Foreign Company

On which Tax Deducted at Source (TDS) has not been deducted or the amount deducted has not been deposited with the government by the deductor within the specified due date.

In simple terms, if a taxpayer has made the above payment to a non-resident, whether in India or outside India, and has failed to deduct TDS on any such payment then the expenditure will not be allowed as a deduction.

For example: Mr. Anban, a sole proprietor, had made a royalty payment of Rs. 1,00,000 to a company incorporated outside India, but failed to deduct TDS on the amount before remittance. Therefore, in this case the entire Rs. 1,00,000 will be disallowed i.e., Mr. Anban will not be able to claim a deduction for the amount while computing his taxable income. 

Is The Payment Permanently Disallowed Under Section 40(a)(i)?

Any payment made without deducting TDS is disallowed. However, it is not permanently disallowed. 

The said payment will be disallowed as a deduction in the year it was incurred, but if the payer subsequently deposits the said TDS amount complying with the other provisions of the Act, then the expenses will be allowed as a deduction in the year the TDS was deducted and deposited by the payer. 

Therefore, Mr. Anban will be able to deduct Rs. 1,00,000 in a subsequent year after he deposits the applicable TDS amount with late fees and penalty.

Exceptions to Section 40(a)(i)

The expenditure incurred will be allowed as a deduction even if TDS has not been deducted if the following conditions are met:

• If the payee has furnished tax return under section 139
• If the payee has disclosed such income in his tax return and has paid the applicable tax thereof. Then the deductor should furnish a certificate from an accountant in the prescribed form.
• If the payer proves that the expenditure was for personal purpose and not for business purpose.
• If the payment is below the threshold and not subject to TDS.

Final Word

Complying with the provisions of section 40(a)(i) is very important for an assessee to be able to claim a deduction for the payment made. In this article we have discussed the essentials that are to be kept in mind and complied with.