The finance ministry is contemplating changes to the income tax rule that directs businesses to pay micro, small, and medium enterprises (MSMEs) within 45 days, sources said.

Finance minister Nirmala Sitharaman could announce the revisions during the 2024-25 budget presentation next month.

Officials from North Block are reviewing the rule, effective since April 1, following demands by the industry.

Finance Act 2023 introduced a clause (h) in section 43B of Income Tax Act — stipulating that payments to micro or small enterprises beyond the 45-day limit, specified in section 15 of MSME Development Act 2006, would only be deductible upon actual payment.

If businesses fail to comply within the 45-days, they will face tax liabilities.

MSMEs have expressed concern that this provision may drive bigger buyers to prefer unregistered enterprises to avoid compliance.

Recently, the Supreme Court rejected a plea challenging Section 43B(h) of the Income Tax Act that restricts businesses from extending credit beyond 45 days.

Sources suggest several options are under consideration of the government: including extending the payment period to 60 days, revoking the Income Tax Act amendment or allowing businesses to make payments by the due date to qualify for tax deductions, rendering the 45-day rule irrelevant.

Through the amendments, the Centre wanted to promote timely payments to micro and small enterprises.

However, the measure has reportedly discouraged purchases from MSMEs because the bigger businesses fear the allowance won't get deducted.

MSMEs argue that if deductions are disallowed because of payment defaults within the 45-day limit, the resulting tax liability, with interest and penalties, could reach around 40 per cent.

"Aligning the disallowance for payables under Section 43B(h) of the Income Tax Act with the MSME Act's 45-day payment requirement is difficult given the current trade norm of 60-90 days credit periods," said Vivek Jalan, chairman of the national fiscal affairs and taxation committee at the Bengal Chamber of Commerce and Industry.

Jalan recommended aligning Section 43B(h) with the CGST Act’s 180-day payment provision and extending its applicability to medium-scale enterprises in addition to small and micro enterprises.

Analysts caution that the impact of Clause (h) may vary across MSME sectors, potentially burdening businesses with weaker bargaining power. They note that while the clause could enhance MSMEs' financial health and bargaining power, its success depends on ensuring timely payments from larger entities and minimising compliance burdens for MSMEs.

Bengal goal

The Bengal government has set a target of providing ₹1.53 lakh crore as bank loans to the MSME sector in the current fiscal, a rise of 5.5 per cent over the year-earlier figure.

In the 2023-24 fiscal, the state's MSME sector received ₹1.45 lakh crore in bank credit, translating to a growth of 14 per cent, reports PTI.

Bengal is one of the leading states in terms of MSME units, with 21.5 per cent of the country's total such units located in the state, Debashis Bandopadhyay, special secretary, MSME department, said last week.