Frequent asked questions on payments to MSME for Assessment Year 2024-25 onwards

 All Possible questions are answered for avoiding delays in payments to MSME and the allowability of expenses for Assessment Year 2024-25 for preparation for the year end.  

Question	Answer
What significant change did the Finance Act, 2023 introduce in Section 43B of the Income Tax Act, 1961?	The Finance Act, 2023 amended Section 43B to mandate that any expenditures towards Micro or Small Enterprises are allowed as deductions only on a payment basis within the stipulated time as defined in Section 15 of the MSMED Act, 2006.
How are Micro, Small, and Medium Enterprises (MSMEs) defined under the MSMED Act, 2006?	MSMEs are classified based on their investment in plant and machinery or equipment and turnover, with specific thresholds for Micro, Small, and Medium Enterprises as notified in the MSME Notification dated 1st June 2020.
What is the specified time period for payment to MSEs as per Section 15 of the MSMED Act, 2006?	Payments for goods or services received from MSEs should be made within 15 days of delivery unless a longer period (not exceeding 45 days) is agreed upon in writing.
How does the amendment to Section 43B affect deductions for expenses incurred towards MSEs?	Deductions for expenses incurred towards MSEs are allowed in the fiscal year the payment is made if it is within the time limit specified by Section 15 of the MSMED Act, 2006. If payment is delayed beyond this period, the deduction is disallowed for the year in which the expense was incurred and is only allowed in the year the payment is actually made.
If a business purchases goods or services from an MSE and agrees to a 60-day payment term, how does this affect the deductibility of the expense?	Agreements for payment terms exceeding 45 days do not conform to the stipulations of Section 15 of the MSMED Act, 2006. Therefore, if payment is made beyond the 45-day period, the expense will be disallowed in the fiscal year the expense was incurred and will be allowed in the fiscal year in which the payment is made.
Is the amendment to Section 43B also applicable to purchases from suppliers who are not registered as MSEs?	No, the amendment specifically applies to payments to suppliers that are registered as Micro or Small Enterprises. Payments to suppliers who do not fall under this category or are not registered as MSEs are not subject to the conditions of this amendment.
Does the amendment affect purchases from traders holding Udyam Registration for Priority Sector Lending (PSL) purposes?	No, purchases from traders registered under Udyam for PSL purposes are not affected by this amendment. This is because traders are not covered under the MSMED Act’s provisions for MSEs, as clarified in the memorandum dated 02-07-2021.
How does the non-deductibility of interest under Section 23 of the MSMED Act, 2006, relate to the Income Tax Act?	Interest payable for delayed payments beyond the stipulated period, calculated at three times the bank rate as per Section 16 of the MSMED Act, 2006, is not deductible as an expense under Section 37 of the Income Tax Act, 1961.
What accounting method should be used for determining delayed payments to MSEs as per the amendments?	The First In First Out (FIFO) method must be used to determine delayed payments and corresponding disallowances under Section 43B of the Income Tax Act, 1961. The Last In First Out (LIFO) method is not acceptable.
What actions should businesses take in light of the amendment to Section 43B?	Businesses should verify the MSE status of their suppliers, ensure credit terms do not exceed 45 days, maintain separate records for MSE suppliers, and ensure timely payments to avoid disallowances of expenses.
Is there a specific format or procedure recommended for reconciling payments to MSE suppliers to comply with the amendment?	While the article suggests maintaining diligent records and possibly using a reconciliation sheet, it emphasizes the importance of systematic tracking of payments against invoices to ensure compliance. Specific formats may vary based on internal accounting practices but should facilitate clear visibility of payment timelines.
What are the implications of not adhering to the payment terms stipulated in Section 15 of the MSMED Act, 2006, as amended in the Income Tax Act?	Non-adherence to the specified payment terms can result in the disallowance of related expenses in the fiscal year they were incurred, affecting the taxable income of the business. It requires careful planning and financial management to avoid unexpected tax liabilities.
What is the significance of adding clause (h) to Section 43B of the Income Tax Act?	Clause (h) was added to ensure that deductions for sums payable to MSEs are only made upon actual payment if not paid within the timeframe specified under Section 15 of the MSMED Act, 2006. This aims to enforce timely payments to MSEs, protecting their financial interests.
Why are medium enterprises excluded from the amendment to Section 43B?	The amendment targets micro and small enterprises due to their vulnerability and the greater impact delayed payments can have on their operations. Medium enterprises, while still facing challenges, are typically more resilient and have better access to finance, reducing the necessity for similar protections.
What significant change did the Finance Act, 2023 introduce in Section 43B of the Income Tax Act, 1961?	In 2023, a company incurred ₹5 lakh in expenses for services from a small enterprise but delayed payment beyond the timeframe specified in the MSMED Act, 2006. Due to the amendment, this expense was not deductible in the fiscal year 2023 but became deductible in fiscal year 2024 when the payment was actually made.
How are Micro, Small, and Medium Enterprises (MSMEs) defined under the MSMED Act, 2006?	A manufacturing enterprise with an investment of ₹1 crore in plant and machinery and a turnover of ₹5 crore is classified as a 'Micro' enterprise according to the revised criteria.
What is the specified time period for payment to MSEs as per Section 15 of the MSMED Act, 2006?	A textile company purchases fabric from a small enterprise and agrees to pay within 30 days as per the invoice terms. This is within the acceptable payment period defined by the MSMED Act, 2006.
How does the amendment to Section 43B affect deductions for expenses incurred towards MSEs?	If a business agreed to pay an MSE within 45 days for a purchase made in January 2023 but only made the payment in March 2023, the expense is only deductible in the 2023-24 fiscal year, assuming the payment fell outside the stipulated payment window.
If a business purchases goods or services from an MSE and agrees to a 60-day payment term, how does this affect the deductibility of the expense?	A software company contracts with an MSE for development services, agreeing to a 60-day payment term. Because this exceeds the 45-day limit, any payment made after this period means the expense is deductible only in the fiscal year the payment is made.
Is the amendment to Section 43B also applicable to purchases from suppliers who are not registered as MSEs?	A corporation purchases office supplies from a large vendor not registered as an MSE and delays payment. The amendment to Section 43B would not apply, and the usual rules of deduction on accrual or payment basis, as the case may be, would be followed.
Does the amendment affect purchases from traders holding Udyam Registration for Priority Sector Lending (PSL) purposes?	A bank procures stationary from a trader who has Udyam Registration for PSL. The payment terms and deductions for these transactions are not impacted by the amendment related to MSEs.
How does the non-deductibility of interest under Section 23 of the MSMED Act, 2006, relate to the Income Tax Act?	A construction company delays payment to an MSE beyond the agreed period and incurs interest at three times the bank rate. This interest is not deductible as a business expense under the Income Tax Act.
What accounting method should be used for determining delayed payments to MSEs as per the amendments?	An engineering firm uses the FIFO method to prioritize payments to its MSE suppliers, ensuring that older invoices are cleared first to comply with the stipulated payment terms and avoid disallowance of deductions.
What actions should businesses take in light of the amendment to Section 43B?	A manufacturing company conducts an audit to identify all MSE suppliers, revises its payment processes to ensure compliance with the 45-day payment term, and sets up a dedicated tracking system to monitor these payments.
Is there a specific format or procedure recommended for reconciling payments to MSE suppliers to comply with the amendment?	A retail chain develops a spreadsheet that tracks each invoice from MSE suppliers, including the invoice date, payment terms, and actual payment date, to ensure and demonstrate compliance with the amended payment terms.
What are the implications of not adhering to the payment terms stipulated in Section 15 of the MSMED Act, 2006, as amended in the Income Tax Act?	A technology startup fails to pay an MSE supplier within the stipulated time for a software license. As a result, the expense, initially recorded in the 2023 fiscal year, is disallowed and only becomes deductible in the 2024 fiscal year when the payment is finally made.
What is the significance of adding clause (h) to Section 43B of the Income Tax Act?	The addition of clause (h) meant that a food processing company had to revise its entire accounts payable system to ensure that payments to MSE suppliers were made within the specified timeframe to maintain the deductibility of these expenses.
Why are medium enterprises excluded from the amendment to Section 43B?	A medium-sized enterprise, by virtue of its larger size and better financial resilience compared to micro and small enterprises, may not face the same level of financial stress from delayed payments, explaining its exclusion from the specific protections under the amendment.

 

Situation	Tax consequence	Rationale
ABC Ltd. purchases goods worth Rs. 35,00,000 from XYZ private Ltd. XYZ private Ltd. is a small enterprise as per Section 2 of the MSMED Act
(a) ABC Ltd. makes payment within the time allowed under Section 15 of the MSMED Act	(a) Entire sum will be allowed as purchases	Because payment has been made within the time limit
(b) ABC Ltd. makes payment after the time allowed under Section 15 of the MSMED Act but within the previous year 2023-24.	(b) Entire sum will be allowed as purchases	Because payment has been made in the year of incurrence
(c) ABC Ltd. makes payment in the year 2024-25 after the time allowed under Section 15 of the MSMED Act but before the due date of ITR	(c) Payment will be disallowed in the year 2023-24 but will be allowed in the year 2024-25	Because the benefit of the first proviso to section 43B will not be available in this situation.
ABC Enterprises purchases goods from Radhika Enterprises (A trader) on 20-03-2024. The payment was to be made by 31-3-2024 but paid by 20-4-2024.	No disallowance under section 43B	Radhika Enterprises (A trader) is not an enterprise within the meaning of Section 2 of the MSMED Act because it is a trader and hence there will be no application of Section 43B(h).
ABC Enterprises engaged audit services of Mr. A. As per agreement, the fees were to be paid after the completion of audit within 15 days. Global enterprises make provision for audit fees as on 31-3-2024 for Rs. 1,50,000. The audit gets completed by 31.08.2024 and payment is made within 15 days from 31.08.2024.	No disallowance under section 43B called for	Audit fees will be allowed in the year 2023-24 because payment has been made as per agreement and the period of 15 days will be counted from the day of acceptance of service which in this case is 31.08.2024

Continuing with case scenarios in a similar format:

Case	Date of Acceptance	Date Agreed	Date of Payment	Tax consequence	Rationale
I	15/07/2023	25/07/2023	25/07/2023	Allowed	Payment within the agreed date.
II	15/07/2023	15/09/2023	14/09/2023	Allowed with conditions	Payment exceeds 45 days limit but made within FY, interest if any, disallowed.
III	17/03/2024	27/04/2024	26/04/2024	Allowed	Payment within the agreed date and 45 days limit.
IV	19/03/2024	-	02/04/2024	Allowed	Payment within 15 days from acceptance.
V	19/03/2024	-	09/04/2024	Disallowed in FY 2023-24, Allowed in FY 2024-25	Payment not within 15 days, interest disallowed, principal disallowed in FY 2023-24.
VI	19/03/2024	31/05/2024	31/05/2024	Disallowed in FY 2023-24, Allowed in FY 2024-25	Payment exceeds 45 days limit, interest disallowed, principal disallowed in FY 2023-24.

This format should make the examples and the corresponding tax consequences and rationales clearer.

 Please write any other question not answered in the comments and in next post we will cover those.