Daily Current Affairs : 7-May-2024

The Finance Act of 2023 added an amendment to the Income Tax Act, aiming to make certain well-timed payments to micro, small, and medium enterprises (MSMEs). While the purpose behind this move was positive, the provision has led to some unintended negative effects. Let’s explore the issue in more detail.

The New Provision

The amendment, effective from April 1, 2024, requires organizations to settle payments to MSMEs within 45 days to claim tax deductions. This rule applies to all transactions related to goods or services provided by MSMEs registered under the Micro, Small, and Medium Enterprises Development (MSMED) Act, 2006. While this provision was introduced to protect MSMEs from delayed payments, it has created challenges for both large companies and smaller MSMEs.

Unintended Consequences

Several unexpected results have emerged from the new provision:

  • Shift to Unregistered MSMEs: Large companies have started shifting their orders to MSMEs that are not registered under the MSMED Act. By doing so, these businesses can avoid the 45-day payment deadline, since only registered MSMEs are affected by the new tax rules.
  • MSMEs Surrendering Registration: To stay competitive and maintain their business relationships, some smaller MSMEs are voluntarily giving up their registration under the MSMED Act. By doing this, they can avoid the pressure to settle payments within the strict 45-day window and continue receiving business from larger organizations.

Possible Solutions

Tax professionals have pointed out that the 45-day payment deadline may be too strict for many businesses, especially in the context of cash flow and operational challenges. To address this issue, they have suggested the following:

  • Extension of Payment Timelines: Extending the payment deadline could provide businesses more flexibility to manage cash flow and settle payments without facing penalties.
  • Review of the Registration Requirement: Reconsidering the registration requirement for MSMEs could help prevent businesses from being forced to abandon their status to survive.

Important Points:

Amendment to the Income Tax Act (2023):

  • Requires companies to settle payments to MSMEs within 45 days to claim tax deductions.
  • Applies to MSMEs registered under the MSMED Act, 2006.
  • The rule becomes effective from April 1, 2024.

Intended Purpose:

  • Aimed at ensuring timely payments to micro, small, and medium enterprises (MSMEs).

Unintended Consequences:

  • Shift to Unregistered MSMEs: Large companies are moving orders to unregistered MSMEs to avoid the 45-day payment deadline.
  • MSMEs Surrendering Registration: Smaller MSMEs are giving up their registration under the MSMED Act to avoid the pressure of strict payment timelines and continue business with large companies.

Possible Solutions:

  • Extension of Payment Timelines: Provide businesses with more flexibility to manage cash flow and settle payments without penalties.
  • Review of Registration Requirement: Reconsidering the necessity of MSME registration could prevent small businesses from abandoning their status.

Why In News

A new provision in the Income-Tax Act, designed to ensure timely payments to micro, small, and medium enterprises (MSMEs), has unfortunately led to unintended consequences, disrupting business operations and creating challenges for both large companies and smaller MSMEs.

MCQs about Unintended Consequences of New Provision in the Income Tax Act

  1. What is the primary purpose of the new provision introduced in the Finance Act of 2023?
    A. To increase the tax rate for MSMEs
    B. To ensure timely payments to MSMEs
    C. To provide financial support to large companies
    D. To require large companies to make advance payments to MSMEs
    Correct Answer: B. To ensure timely payments to MSMEs
    Explanation: The new provision in the Income Tax Act, introduced by the Finance Act of 2023, was primarily designed to ensure that companies make timely payments to MSMEs to protect them from delayed payments.
  2. What consequence has the 45-day payment rule led to for large companies?
    A. They have reduced their operations
    B. They have started shifting orders to unregistered MSMEs
    C. They have faced higher tax liabilities
    D. They have given up working with MSMEs
    Correct Answer: B. They have started shifting orders to unregistered MSMEs
    Explanation: Large companies have started moving orders to MSMEs that are not registered under the MSMED Act to avoid the strict 45-day payment deadline and the associated tax implications.
  3. What action have some smaller MSMEs taken to cope with the new provision?
    A. They have increased their product prices
    B. They have expanded their operations
    C. They have surrendered their MSMED registration
    D. They have stopped accepting payments from large companies
    Correct Answer: C. They have surrendered their MSMED registration
    Explanation: Some smaller MSMEs have voluntarily given up their registration under the MSMED Act to avoid the pressure of the 45-day payment window and continue business with larger companies.
  4. What is one possible solution suggested by tax experts to address the issues created by the new provision?
    A. Increasing the tax rate for large companies
    B. Extending the payment deadline for settling dues to MSMEs
    C. Reducing the number of registered MSMEs
    D. Requiring MSMEs to pay taxes in advance
    Correct Answer: B. Extending the payment deadline for settling dues to MSMEs
    Explanation: Tax experts have suggested that extending the 45-day payment deadline could provide businesses with more flexibility to manage their cash flow and avoid penalties for delayed payments.

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