In a decisive move to strengthen liquidity and prompt payments for India’s Micro and Small Enterprises, the Union Finance Act inserted clause (h) into Section 43B of the Income Tax Act, 1961. Effective from Assessment Year 2024-25 (Financial Year 2023-24), Section 43B(h) disallows business deductions for any sum owed to Micro and Small Enterprises if the payment is not made within the strict statutory time limits prescribed under Section 15 of the Micro, Small and Medium Enterprises Development (MSMED) Act, 2006.
Unlike other clauses under Section 43B—which permit deductions if dues (such as GST, PF, or bonuses) are paid before the ITR filing due date under Section 139(1)—Section 43B(h) does not allow the Section 139(1) relaxation. If payment is delayed past the MSMED Act deadline, the deduction is strictly denied in that financial year, directly inflating taxable business profits and tax liabilities.
1. Statutory Payment Timelines Under MSMED Act, 2006
Section 15 of the MSMED Act mandates that buyers must settle supplier invoices within the following concrete timeframes:
| Contractual Arrangement | Statutory Payment Deadline | Governing Legal Provision |
|---|---|---|
| With Written Agreement | Payment must be made on or before the date agreed, which cannot exceed 45 days from the day of acceptance or deemed acceptance. | Section 15 of MSMED Act, 2006 |
| Without Written Agreement | Payment must be made within 15 days from the day of acceptance of goods or rendition of services. | Section 15 of MSMED Act, 2006 |
| Agreement Exceeding 45 Days | Any contractual term prescribing more than 45 days is void ab initio; the ceiling remains strictly capped at 45 days. | Proviso to Section 15, MSMED Act |
2. Enterprise Classification: Micro vs Small vs Medium vs Traders
Section 43B(h) applies exclusively to purchases from registered Micro and Small Enterprises having active registration on the official Udyam portal (udyamregistration.gov.in). It does not apply to Medium Enterprises or Wholesale/Retail Traders:
| Enterprise Category | Investment in Plant & Machinery | Annual Turnover Limit | Section 43B(h) Disallowance Applies? |
|---|---|---|---|
| Micro Enterprise | Does not exceed ₹1 Crore | Does not exceed ₹5 Crore | Yes, Strictly Applicable |
| Small Enterprise | Does not exceed ₹10 Crore | Does not exceed ₹50 Crore | Yes, Strictly Applicable |
| Medium Enterprise | Does not exceed ₹50 Crore | Does not exceed ₹250 Crore | No (Exempt from 43B(h)) |
| Traders (Wholesale / Retail) | Registered under NIC codes 45, 46, 47 | Any turnover tier | No (Exempt as per OM 5/2/2021-Policy) |
3. Practical Tax Calculation & Disallowance Impact
Consider an enterprise buying materials worth ₹15,00,000 from an Udyam-registered Micro supplier on February 10, 2025, with an agreed 45-day credit period. The due date is March 27, 2025. If the enterprise pays on April 15, 2025 (in the subsequent financial year):
- FY 2024-25 (AY 2025-26): The entire expense of ₹15,00,000 is disallowed and added back to taxable business income under Section 43B(h) on the income tax portal (
incometax.gov.in). At a 30% corporate tax rate plus cess, this triggers an immediate additional tax outflow of ₹4,68,000. - FY 2025-26 (AY 2026-27): The deduction of ₹15,00,000 will only be allowed in the year of actual payment.
- Mandatory Penal Interest under Section 16 of MSMED Act: In addition to tax disallowance, the buyer is legally obligated to pay compound interest with monthly rests at 3 times the Bank Rate notified by the RBI. Furthermore, Section 23 of the MSMED Act prohibits any income tax deduction for this interest expense.
4. Protective Contractual Clause for Purchase Orders & Vendor Agreements
To avoid surprise disallowances caused by suppliers withholding their Udyam status, businesses should incorporate a standardized protective clause in all Purchase Orders (POs) and vendor master agreements:
"The Supplier hereby declares that its enterprise status under the MSMED Act, 2006 is as specified in Schedule A [Micro / Small / Medium / Trader / Non-MSME]. The Supplier covenants to furnish a verified copy of its valid Udyam Registration Certificate along with each tax invoice. In the event of any status change, reclassification, or revocation on the Udyam portal (udyamregistration.gov.in), the Supplier shall give written intimation within seven (7) business days. In the absence of an active Udyam certificate at the time of invoice delivery, the Buyer shall not be subject to interest under Section 16 of the MSMED Act or disallowance claims under Section 43B(h) of the Income Tax Act, 1961."
5. Compliance Checklist for Indian Businesses & Startups
To avoid severe tax disallowances during annual ITR filing on incometax.gov.in, finance teams must implement this 4-step internal audit control:
- Collect Udyam Certificates: Issue vendor circulars requesting all suppliers to furnish their Udyam Registration Certificate and verify their status on
udyamregistration.gov.in. - Segregate ERP Vendor Masters: Tag vendor profiles in accounting software (Tally, Zoho Books, SAP) as Micro, Small, Medium, or Trader based on their Udyam certificate and major activity.
- Establish Aging Review Cycles: Implement automated alerts at 30 days and 40 days to ensure invoices are cleared well within the 45-day statutory limit.
- Year-End Balance Sheet Review: Reconcile all outstanding sundry creditors as of March 31st to ensure no overdue Micro/Small vendor balance remains unpaid.
Need support setting up an MSME compliance audit or resolving Section 43B(h) disallowances? Review our dedicated corporate tax compliance services or connect directly with our advisory team at Bluepeak Accountings Contact.
Disclaimer: This article provides educational guidance on Section 43B(h) of the Income Tax Act, 1961, and Section 15 of the MSMED Act, 2006. Corporate entities and firms should consult their tax advisors to assess specific contractual terms and vendor classifications.