Tax Alert | Delivering clarity

13 April 2022

Withholding tax provisions applicable on year-end provisions provided payees are identifiable
The Bangalore Bench of the Income-tax Appellate Tribunal, based on the facts of the case, has
rendered its decision that withholding tax provisions are triggered with respect to the amount
credited to ‘Provision for expenses account’ and the taxpayer is liable to deduct tax from the
year-end provision for expenses (except where payees are not identifiable).

Background:
• The taxpayer1 is a company engaged in the business of manufacture and sale/licensing of active
pharmaceutical ingredients, and trading in certain pharma formulations.
• During the Financial Year (FY) 2011-12, corresponding to Assessment Year (AY) 2012-13, the taxpayer
disallowed certain expenditure under section 40(a)(i)/40(a)(ia) of the Income-tax Act, 1961 (ITA) in its
return of income, for not deducting tax at source (TDS) from such expenses (Expenses).
• During the course of audit proceedings, the Assessing Officer (AO):
─ Treated the taxpayer as an ‘assessee in default’, since there was a failure on part of the taxpayer to
deduct TDS from the Expenses; and
─ Raised a demand under section 201(1) and charged interest under section 201(1A) of the ITA
(relating to consequences of failure to deduct or pay TDS).
• Aggrieved, the taxpayer filed an appeal before the Commissioner of Income-tax (Appeals) [CIT(A)], who
upheld the AO’s order, with certain directions to the AO, such as, recomputation of interest upto the
date on which the tax was deducted/paid (as the interest was originally upto the date of AO’s order).
• Aggrieved by the CIT(A)’s order, the taxpayer filed an appeal before the Bangalore Bench of Income-tax
Appellate Tribunal (ITAT).
Key contentions of the taxpayer before the ITAT were as follows:
─ The taxpayer was not liable to deduct TDS from the ‘year-end provisions’.
─ The provision for expenses included commission expenses payable to non-resident commission
agents and such agents were not liable to tax in India. Hence, the provisions of section 195 (relating
to TDS from certain payments to non-residents) were not applicable.

1 Biocon Ltd v. DCIT LTU (ITA no. 1248/Bang/2014) (Bang. ITAT)

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Decision of the ITAT:
The ITAT noted /observed the following:

Accounting practice relating to year-end provision

• Taxpayers following mercantile system of accounting are required to account for all known expenses
and losses, even if the bills/invoices have not been received. This is done by making provision for
various expenses at year-end.
• The accounting practice followed in this regard was that the concerned expenses account was debited
and ‘provision for expenses’ account was ‘credited’. The ‘book rule’ of accounting practice was to debit
‘provision for expenses’ account with the payment made in the succeeding year.
• The effect of making a provision in a year was that the profit and loss (P&L) account of the year in which
the said provision was made would absorb the relevant expenses to the extent so provided for, i.e.,
those expenses would not get shifted to the next year when the payment was actually made.
The P&L A/c of the succeeding year would not be affected by the amount of provision made if the
actual payment made was equal to or in excess of the provision amount. However, if there was no
requirement of making any payment or if the payment made was less than the amount provided for,
then the P&L account of the succeeding year would be affected to the extent of the amount transferred
from “Provision for expenses a/c” to the credit of P&L account.
• The modern-day accounting practice is to reverse the provision for expense on the first day of the
succeeding year and book the expense as and when the invoice is accounted, or payment is made in the
succeeding year. This is done only for the sake of convenience.
The effect/impact on the net profit/loss of the preceding year in which the provision was initially
created or the effect on the net profit/loss of the succeeding year would remain same under the book
rule method of accounting practice and modern-day accounting practice.

Applicability of TDS provisions on year-end provisions

• As per the relevant extract of section 194C(2) of the ITA:
“Where any sum referred to in sub-section (1) is credited to any account whether called “Suspense
account” or by any other name, in the books of account of the person liable to pay such income, such
crediting shall be deemed to be credit of such income to the account of the payee and the provisions of
this section shall apply accordingly.”
Similar clause is available in all other provisions requiring deduction of tax at source.
• The co-ordinate benches of the ITAT in earlier decisions2&3 had held that:

2 IBM India Private Ltd v. ITO (TDS) (ITA Nos. 749 to 752/Bang/2012 dated 14 May 2015) (Bang. ITAT)
3 Interglobe Aviation Ltd v. ACIT (ITA No.5347/Del/2012 dated 7 January 2020) (Delhi ITAT)

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 ─ The liability to deduct TDS existed when the amount in question was credited to a ‘suspense
account’ or any other account by whatever name called, which would also include ‘Provision’
created in the books of accounts.
─ Tax was required to be deducted on the year-end provisions which were ascertained liability.
Accordingly, the TDS provisions were triggered for the amount credited to ‘Provision for expenses account’
and the taxpayer was liable to deduct TDS from the year-end provision for expenses.

Liability under section 201 of the ITA (relating to consequences of failure to deduct or pay TDS) in case of
suo-moto disallowance under section 40(a)(i)/(ia) of the ITA
• The ITAT noted that the taxpayer had contended that it had voluntarily disallowed the amount of year-
end provision under section 40(a)(i)/(ia) of the ITA and hence, there was no requirement to raise
demand under sections 201(1) and 201(1A) of the ITA.
• The co-ordinate benches of the ITAT in earlier decisions4 had held that the disallowance under section
40(a)(i)/(ia) of the ITA and the demand raised under section 201 were two different consequences.
• The ITA provides for consequences5 on failure to deduct tax at source or failure to remit the tax so
deducted, which were independent of each other. This was also supported by the following explanation
under section 191 of the ITA (relating to direct payment) as per which, the provisions of section 201 of
the ITA are triggered when the taxpayer is ‘deemed to be an assessee in default’ and the said liability is
‘without prejudice to any other consequences which he may incur’:
“Explanation.—For the removal of doubts, it is hereby declared that if any person including the
principal officer of a company,—
(a) who is required to deduct any sum in accordance with the provisions of this Act; or
(b) referred to in sub-section (1A) of section 192, being an
employer,
does not deduct, or after so deducting fails to pay, or does not pay, the whole or any part of the tax,
as required by or under this Act, and where the assessee has also failed to pay such tax directly,
then, such person shall, without prejudice to any other consequences which he may incur, be
deemed to be an assessee in default within the meaning of sub-section (1) of section 201, in respect
of such tax.”
However, as per the proviso to section 40(a)(i)/(ia) of the ITA (which provides a relief), if the
taxpayer was not deemed to be an assessee in default under section 201 of the ITA, then the
requirement of making disallowance under section 40(a)(i)/(ia) of the ITA would not apply. Thus, the

4Agreenco Fibre foam P Ltd vs. ITO (TDS) [2013] 38 taxmann.com 155 (Cochin ITAT) and IBM India Private Ltd v. ITO (TDS) (ITA Nos. 749 to
752/Bang/2012 dated 14 May 2015) (Bang. ITAT)
5For example: disallowance of expenses under section 40(a)(i)/(ia) of the ITA; demand under section 201(1)/201(1A) of the ITA where the
taxpayer is deemed to be an assessee in default; penalty under section 271C/271CA of the ITA; prosecution under section 276B of the ITA;
etc.

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 proviso under section 40(a)(i)/(ia) of the ITA itself made it clear that the liability under section 201 of
the ITA was independent of the said disallowances.
Accordingly, the taxpayer could escape from the disallowance to be made under section 40(a)(i)/(ia)
of the ITA, if he was not treated as an ‘assessee in default’, however, the converse was not true i.e.,
if the taxpayer made disallowance under section 40(a)(i)/(ia) of the ITA he would not be exonerated
from the liability under section 201 of the ITA.
• The TDS amount could be recovered from the taxpayer, even if they had not yet paid the amount or
fully paid the amounts to the payee i.e., the taxpayer is made liable for the tax belonging to the payee
and hence, it is called a vicarious liability.
Accordingly, the disallowance made under section 40(a)(i)/40(a)(ia) of the ITA would not absolve the
taxpayer from the liability under section 201 of the ITA, when a taxpayer was deemed to be an ‘assessee in
default’.

Liability when payments are actually made in the succeeding year

• The following findings of the earlier decision6 of the co-ordinate bench of the ITAT were to be upheld:
─ The demand raised under section 201(1) of the ITA was liable to be cancelled if the taxpayer had
deducted TDS at the time of accounting the invoices/bills or at the time of making payment in the
succeeding year.
─ The taxpayer would be liable to pay interest under section 201(1A) of the ITA, in view of the delay
in deduction/remittance of TDS amount.

Practical difficulties in complying with TDS provisions

• Cases where payees were not identifiable
Based on earlier decisions7 the ITAT noted that:
─ The taxpayer therein had established the fact that the payees were not identifiable.
─ There was no dispute to the proposition that the TDS mechanism would fail if the payees were not
identifiable. However, it was the responsibility of the taxpayer to prove that the payees were not
identifiable with credible reasons.
Accordingly, if the taxpayer in the case under consideration was able to prove that the payees could not
be identified in respect of particular expenses, then the mechanism provided under Chapter XVII-B of
the ITA (relating to deduction of tax at source) would fail and the AO was not entitled to demand tax
under section 201(1) and interest under section 201(1A) of the ITA in respect of those expenses.
• Year-end provisions being made on estimated basis (difference in estimation made and actual
payments)

6 IBM India Private Ltd v. ITO (TDS) (ITA Nos. 749 to 752/Bang/2012 dated 14 May 2015) (Bang. ITAT)
7 UCO Bank v. Union of India [2014] 51 taxmann.com 253 (Delhi HC), Karnataka Power Transmission Corporation Ltd. v. DCIT
[2016] 67 taxmann.com 259 (Karnataka HC), Industrial Development Bank of India v. ITO [2007] 107 ITD 45 (Mumbai ITAT)

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 As the year-end provisions are made on estimation basis, there could be difference between the
estimate made and the actual payments. The following five scenarios could emerge at the time of
making actual payments in the succeeding year:
i. The actual payment made in the succeeding year is more than the provision amount:
The taxpayer would be liable to pay interest (on the provision amount) from the date of provision to
the date of actual deduction/payment.
ii. The actual payment made in the succeeding year is less than the provision amount:
The taxpayer would be liable to pay interest (on the amount of actual payment made) from the date
of provision to the date of actual deduction/payment. The taxpayer would be reversing the excess
provision in the succeeding year, hence, the liability to deduct TDS would arise on the amount of
actual payment only.
iii. No payment is required to be made, since it was ascertained that there is no liability to pay the
amount and accordingly, entire amount of provision is reversed in the succeeding year:
There would be no liability to deduct TDS from the amount of provision created as the said amount
is not payable at all to anyone. The provision amount could not be linked to any payee and hence,
the provisions of section 201 of the ITA would not apply.
iv. Payment has not been made in the succeeding year, even though the liability is acknowledged
(however, TDS was deducted/paid in the succeeding year):
The interest under section 201(1A) shall be payable (on the provision amount) from the date of
provision to the date of actual deduction.
v. Payment has not been made in the succeeding year, even though the liability was acknowledged
(however, TDS was not deducted in the succeeding year):
The taxpayer would be liable to pay demand under section 201(1) of the ITA equivalent to the TDS
amount deductible (on the provision amount) and would be liable to pay interest under section
201(1A) of the ITA (on the provision amount) till the date of deduction/payment, which might cross
the succeeding year.

Conclusion:
• The taxpayer had claimed to have deducted TDS at the time of accounting of invoices/payments.
Accordingly, the year-end provisions could fall under any one of the categories/scenarios discussed
above. This issue was to be restored to the file of the AO in order to enable him to recompute the
liability, if any, under section 201(1) and interest under section 201(1A) of the ITA.
• The year-end provisions made by the taxpayer included ‘commission payable to non-residents’, which
was liable for deduction of TDS under section 195 of the ITA (which were triggered only if that payment
was chargeable under the provisions of the ITA). Since the taxpayer had not furnished any detail to the
AO/CIT(A) with regards to the applicability or otherwise of provisions of section 195 of the ITA to the
said payments, the issue was to be restored to the file of the AO for fresh examination in accordance
with law and in light of the above discussions.

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Comments:
It is a common practice for taxpayers to account for year-end provisions and reverse the same on the first
day of the succeeding FY.
This ruling while reiterating the following key principles, has also laid down various scenarios which may be
relevant for determining the applicability of TDS provisions on year-end provisions and the consequences
on failure to deduct TDS at the time of making such year-end provisions:
• The TDS provisions are triggered for the amount credited to ‘Provision for expenses account’ and the
taxpayer is liable to deduct TDS from the year-end provision for expenses.
• The disallowance made under section 40(a)(i)/40(a)(ia) of the ITA does not absolve the taxpayer from
the liability under section 201 of the ITA, when a taxpayer is deemed to be an ‘assessee in default’.
• The demand raised under section 201(1) of the ITA is to be cancelled if the taxpayer has deducted TDS
at the time of accounting the invoices/bills or at the time of making payment in the succeeding year.
However, the taxpayer will be liable to pay interest under section 201(1A) of the ITA, for delay in
deduction/remittance of TDS amount.
• The TDS mechanism fails if the payees are not identifiable. However, it is the responsibility of the
taxpayer to prove that the payees are not identifiable with credible reasons.
Further, the ITAT has observed that the effect/impact on the net profit/loss of the preceding year in which
the provision is initially created or the effect on the net profit/loss of the succeeding year will remain the
same under the book rule method of accounting practice and modern-day accounting practice.
Taxpayers may want to evaluate the impact of this ruling to the specific facts of their cases.

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