Income Tax

Disallowance under Section 40A

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  Posted on June 16, 2021

Disallowance under Section 40A

This section provides us with the expenses or amount not deductible in certain circumstances. This section shall have an effect of notwithstanding anything to the contrary contained in any other provision of this Act relating to the computation of income under the head “Profits and gains of business or profession”.

Power of Assessing officer Section 40A(2) :

Where the assessee incurs any expenditure in respect of which payment has been or is to be made to any person referred to in clause (b) of this sub-section, and the Assessing Officer is of opinion that such expenditure is excessive or unreasonable having regard to the fair market value of the goods, services or facilities for which the payment is made or the legitimate needs of the business or profession of the income tax return filing or the benefit derived by or accruing to him therefrom, so much of the expenditure as is so considered by him to be excessive or unreasonable shall not be allowed as a deduction

The persons referred to in this section include following:

  • In case of an individual, any relative of such individual;
  • In case of a company, firm, association of persons or Hindu Undivided Family, any director of the company, partner of the firm, or member of the association or family, or any relative of such director, partner or member;
  • Any individual who has a substantial interest in the business or profession of the assessee, or any relative of such an individual;
  • A company, firm, association of persons or Hindu Undivided Family having a substantial interest in the business or profession of the assessee or any director, partner or member of such company, firm, association or family, or any relative of such director, partner or member;
  • A company, firm, association of persons or Hindu Undivided Family of which a director, partner or member, as the case may be, has a substantial interest in the business or profession of the assessee, or any relative of such director, partner or member;
  • Any person in whose business the assessee, or his relative has a substantial interest; or
  • Any person in whose business the assessee, being a company, firm, association of persons or Hindu Undivided Family, or any director of such company, partner of such firm or member of the association or family, or any relative of such director, partner or member, has a substantial interest.

Substantial Interest :

Substantial interest holder refers to any person beneficially holding 20% or more of the equity capital (voting power )(in case of a company) and 20% or more of share in profit (in any other case), at any time during the previous year.

Disallowance in case of payment made by cash, etc. [Section 40A(3)]

Where the assessee incurs any expenditure in respect of which a payment or aggregate of payments made to a person in a day, otherwise than by an account payee cheque drawn on a bank or account payee bank draft, or use of electronic clearing system through a bank account 72[or through such other electronic mode as may be prescribed], exceeds Rs.10000/-, no deduction shall be allowed in respect of such expenditure.

It is clearly pertinent to be noted that Section 40A(3) only disallows for any expenditure incurred in the basics of Income tax act, India. Therefore, purchase of capital assets is not covered under the purview of this Section.

There are certain other exceptions as well to the provisions stated in Section 40A(3)(a) and in Section 40A(3)(b). These provisions have been stated in Rule 6DD

Rule 6DD: Exceptions to provisions of Section 40A(3)

In this case no disallowance is made ,eventhough payment exceeding Rs.10000/- made in cash

(a)  where the payment is made to—
(i) the Reserve Bank of India or any banking company as defined in clause (c) of section 5 of the Banking Regulation Act, 1949 (10 of 1949);
(ii) the State Bank of India or any subsidiary bank as defined in section 2 of the State Bank of India (Subsidiary Banks) Act, 1959 (38 of 1959);
(iii) any co-operative bank or land mortgage bank;
(iv) any primary agricultural credit society or any primary credit society as defined under section 56 of the Banking Regulation Act, 1949 (10 of 1949);
(v) the Life Insurance Corporation of India established under section 3 of the Life Insurance Corporation Act, 1956 (31 of 1956);

 

(b) where the payment is made to the Government and, under the rules framed by it, such payment is required to be made in legal tender;
(c) where the payment is made by—
(i) any letter of credit arrangements through a bank;
(ii) a mail or telegraphic transfer through a bank;
(iii) a book adjustment from any account in a bank to any other account in that or any other bank;
(iv) a bill of exchange made payable only to a bank;
(d) where the payment is made by way of adjustment against the amount of any liability incurred by the payee for any goods supplied or services rendered by the assessee to such payee;
(e) where the payment is made for the purchase of—
(i) agricultural or forest produce; or
(ii) the produce of animal husbandry (including livestock, meat, hides and skins) or dairy or poultry farming; or
(iii) fish or fish products; or
(iv) the products of horticulture or apiculture,
to the cultivator, grower or producer of such articles, produce or products;
(f) where the payment is made for the purchase of the products manufactured or processed without the aid of power in a cottage industry, to the producer of such products;
(g) where the payment is made in a village or town, which on the date of such payment is not served by any bank, to any person who ordinarily resides, or is carrying on any business, profession or vocation, in any such village or town;
(h) where any payment is made to an employee of the assessee or the heir of any such employee, on or in connection with the retirement, retrenchment, resignation, discharge or death of such employee, on account of gratuity, retrenchment compensation or similar terminal benefit and the aggregate of such sums payable to the employee or his heir does not exceed fifty thousand rupees;
(i) where the payment is made by an assessee by way of salary to his employee after deducting the income-tax from salary in accordance with the provisions of section 192 of the Act, and when such employee—
(i) is temporarily posted for a continuous period of fifteen days or more in a place other than his normal place of duty or on a ship; and
(ii) where the payment is made by any person to his agent who is required to make payment in cash for goods or services on behalf of such person;
(j) where the payment is made by an authorised dealer or a money changer against purchase of foreign currency or travellers cheques in the normal course of his business.

 

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