Section 40A(3): Disallowance of Expenses made in Cash & Exceptions
Scope, Payment mode allowed, Exception under rule 6DD
A business has various expenditures being incurred in one day. It may range from the purchase of raw materials, payments of services, repairs, wages and so on. Since it is not possible to draw a comprehensive list of such expenditures or to prove their genuineness, a step was taken to introduce Section 40A(3) under the income tax act. As per section 40A(3), if the business expenditures are made in cash and the amount exceeds Rs 10,000 then it will be disallowed for income tax purposes. There are certain exceptions to this rule as well. The detailed provisions have been explained in this guide further.
What is Section 40A(3) of the Income Tax Act?
If a business makes any payment(s) or expenditure(s) to -
- A single person
- In a single day
- Other than by account payee cheque or an account payee bank draft(i.e. Makes payment via cash)
- Exceeding Rs 10,000/-
then such expenditure will not be allowed as a deduction under section 40A(3) of the income tax act. This means it will not be considered as a business expense and will be added back to the income. Further, it will result in a higher payment of taxes. However, Rule 6DD prescribes certain cases and circumstances where the above mentioned expenditures will be allowed as deduction even if payment is made in Cash. In the case of a transporter (i.e. if the payments are made for hiring or leasing carriages for goods such as lorries, trucks etc), the limit has been fixed to Rs. 35,000 instead of Rs. 10,000/-.
What are the various modes of payment allowed u/s 40A(3)?
Even if the amount of expenditure exceeds Rs 10,000 ( or Rs 35,000) no disallowance will be done if such payment has been made via
- An account payee cheque or
- Demand draft or
- Use of ECS or
- Other prescribed electronic modes
In nutshell, payments made in cash or through bearer cheque can be disallowed only.Example:
M/s ABC makes following payments in cash or through bearer cheque for the purchase of goods from M/s XYZ on 5th May
- Rs 8,000
- Rs 6,000
- Rs 4,000
In this case the total amount paid in a day to one person exceeds Rs 10,000 and the payment has been made through a bearer cheque or cash. This expenditure will be disallowed under section 40A(3) of the income tax act and no deduction for such payment will be allowed to M/s ABC.
What are the exceptions stated under Rule 6DD?
As per Rule 6DD of the income tax act if a payment exceeding Rs 10,000 is made in cash or through bearer cheque, it will be ALLOWED in the following exceptional cases:
- Payment is made to Banking and other credit institutions: Where payment is made to Reserve Bank of India , LIC, Banks, Government, primary agriculture credit society or co-operative bank or land mortgage bank.
- Payment made to Government(both central & state government): Where the payment is made for payment of taxes -direct tax, GST, customs or any other payment to the Govt . It also covers payment made other than taxes. For eg. if scrap is purchased from the Indian railways in cash.
- Payment through banking system: Where the payment is made by
- Any letter of credit
- By Telegraphic Transfer/mail
- Bill of exchange payable to bank
- Use of ECS
- Credit/Debit card
- Book adjustment in the same bank or between one bank to another
- Credit card and Debit card
- Payment made by Book Entries: Payment made by the book adjustment in account of the payee against the money due to the assessee for the supply of goods or services.
- Payment to cultivator, grower or producers of agriculture product, forest product, animal husbandry product(including live stock, meat, hides and skin), dairy product, poultry farming, fish or fisheries product , products of horticulture, apiculture etc.
- Where the payment is made for the purchase of products manufactured without the aid of power in a cottage industry, to the producer of such product.
- Where the payment to a person who ordinarily resides in a village or town which on the date of such payment is not served by any bank.
- Payment of terminal benefits: Where any payment is made to an employee or heir of such employee in connection with the retirement, retrenchment, resignation or death of such employee, on account of gratuity, provided such payment is up to Rs. 50,000/-.
- Payment made to an employee of his salary (after deducting TDS from salary) : when such an employee is temporarily posted for a continuous period of 15 days or more in a place other than his normal place of duty or on a ship or he does not maintain any account in any bank at such place or ship.
- Payment required to be made on a day when banks were closed either on account of holiday or strike.
- Payment made by any person to his agent who is required to make payments in cash for goods or services on behalf of such person.
- Payment made by an authorized dealer or a money changer against the purchase of foreign currency or traveler’s cheque in the normal course of his business.
Frequently Asked Questions
Q - What if an expense is allowed on the due basis and is paid in cash next year?
As per section 40A(3A) when an expense payable is allowed in a year and in any subsequent year the assessee makes payment of such expenditure in cash or through bearer cheque exceeding Rs 10,000, then this payment is deemed to be the profit of business or profession and will be charged to tax in such subsequent year.
Q - Can salary be paid in cash excess of Rs 10000?
As a normal rule salary cannot be paid in cash u/s 40A(3) unless it falls under the exceptions mentioned above.
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