Introduction Section 194T of the Income Tax Act, effective from April 1, 2025, introduces a 10% Tax Deducted at Source (TDS) on payments exceeding Rs. 20,000 annually made by partnership firms or Limited Liability Partnerships (LLPs) to their partners. These payments include salary, remuneration, commission, bonus, or interest. The TDS obligation arises at the time of crediting such amounts to the partner’s account (including the capital account) or making the payment, whichever is earlier. This section has various complexities, which are explored below, along with potential solutions.
Key Complexities and Case Studies
1. Applicability of Section 194T
TDS is applicable for the financial year 2025-26 onwards.
Any payment related to previous financial years but made on or after April 1, 2025, is not subject to TDS under this section.
The deduction applies when the payment exceeds Rs. 20,000 in a financial year.
Case Study 1: A firm credits Rs. 25,000 as remuneration to a partner’s capital account in April 2025, relating to FY 2024-25.
Since the amount pertains to the previous financial year, no TDS is applicable under Section 194T.
Case Study 2: A firm pays Rs. 30,000 as interest on a partner’s capital in May 2025, related to FY 2025-26.
Since the amount relates to FY 2025-26, TDS at 10% is applicable under Section 194T.
2. Interpretation of Salary, Remuneration, Commission, Bonus, and Interest
The term "salary" is not defined in the Income Tax Act for partners.
As per Explanation 2 to Section 15, payments made to partners are not considered salary for tax purposes.
The phrase "in the nature of" broadens the scope of applicability.
Case Study 3: A firm provides perquisites to partners instead of direct remuneration.
Whether perquisites are covered under Section 194T or under Section 194R is ambiguous.
Since Section 194T covers remuneration in the broader sense, TDS may still be required.
3. Disallowance of Expenses and TDS on Gross Amount
Section 40(b) prescribes limits for claiming interest and remuneration as expenses.
The absence of a similar proviso in Section 194T raises a question: should TDS be deducted on the gross amount or only up to the allowable limit?
Case Study 4: A firm pays Rs. 5,00,000 as remuneration to a partner, but only Rs. 3,00,000 is allowable under Section 40(b).
If TDS is deducted on the full Rs. 5,00,000, the partner may face a mismatch between Form 26AS and taxable income.
A possible solution is to request clarification from CBDT to align Section 194T with Section 40(b).
4. Issues with Partner Withdrawals
Partners often withdraw funds throughout the year, which are later adjusted as remuneration.
It is unclear whether TDS should be deducted at the time of withdrawal or only at year-end upon finalization.
Solution:
Firms should define a clear policy for withdrawals and remuneration payments.
If the amount is treated as remuneration in books, TDS should be deducted at the time of credit.
5. Non-Resident Partners and DTAA Considerations
Section 194T does not distinguish between resident and non-resident partners.
Section 195 requires TDS on payments to non-residents.
Case Study 5: A firm pays Rs. 50,000 as remuneration to a non-resident partner.
Should TDS be deducted under Section 194T or Section 195?
Since Section 195 is more specific, TDS should be deducted under Section 195 at applicable DTAA rates.
6. Interest on Partner’s Loan vs. Capital Account
Section 194A exempts TDS on interest paid to partners.
Section 194T mandates TDS on "interest" paid to partners.
Case Study 6: A firm pays Rs. 40,000 as interest on a partner’s loan and Rs. 25,000 as interest on capital.
Interest on a loan is exempt under Section 194A(3)(iv).
Interest on capital requires TDS under Section 194T.
7. Cash Basis Accounting for Firms like CA and Doctors in Practice
Professionals like Chartered Accountants and doctors often follow the cash basis of accounting.
TDS under Section 194T applies at the time of credit or payment, whichever is earlier.
If a firm credits remuneration but does not make actual payments, TDS will still be required.
Solution:
Professional firms should evaluate their cash flow to ensure they can meet TDS obligations even if payments are not immediately made.
8. Compliance and Mismatch in Form 26AS
Firms deduct TDS on gross amounts, while partners claim deductions under Section 40(b), creating reconciliation issues.
Automated notices from tax authorities due to mismatched Form 26AS.
Solution:
CBDT should issue clarifications or FAQs on proper reporting.
Firms should educate partners on proper income reporting.
Checklist for Compliance with Section 194T
Before 31.03.2025
✅ Review partnership agreements and finalize any pending payments to partners before 31.03.2025 to avoid TDS applicability. ✅ Assess the total remuneration, commission, and interest to be paid in FY 2025-26 and structure payments accordingly. ✅ Set up TDS compliance mechanisms, including ERP/accounting system updates for automatic deduction of TDS under Section 194T. ✅ Educate partners about the new TDS implications and the need for proper Form 26AS reconciliation. ✅ Clarify any ambiguity regarding withdrawal policies and remuneration structures in financial statements.
After 01.04.2025
✅ Deduct TDS at 10% when crediting or paying remuneration, commission, bonus, or interest to partners exceeding Rs. 20,000 annually. ✅ Ensure correct classification of payments and reconcile with Form 26AS to prevent mismatch issues. ✅ File TDS returns accurately and within prescribed deadlines to avoid penalties. ✅ Monitor any clarifications or amendments issued by the CBDT regarding Section 194T. ✅ Conduct periodic internal reviews to ensure compliance and minimize potential disputes.
Conclusion
Section 194T introduces multiple complexities, including:
Ambiguities in definitions (salary vs. remuneration).
Conflict with Section 40(b) limits.
Issues in treating non-resident partners.
Distinguishing between interest on loans vs. capital.
Compliance burdens and potential tax notices.
By proactively addressing these challenges, firms and partners can ensure smooth implementation and compliance with Section 194T
