Expenses Disallowed Under Income Tax

The provisions of Income-tax Law facilitate taxpayers to deduct certain expenditures for the purpose of performing the calculation of

taxable income. However, certain expenses incurred under the head “Profits and Gains of Business or Profession (PGBP)” do not qualify for any deductions and are classified as Expenses Disallowed Under Income Tax. This requirement prompts taxpayers to remit the taxes on such expenditures by adding it back to the net profits. In this article, we briefly discuss the various expenses disallowed under the Income Tax Act.

Reasons for Disallowance

An expense could be disallowed for the following reasons:

Any tax amount deductible on certain expenses like TDS was not deducted while making the payment.
The expenditure is not associated with the conduct of the assessee's business or profession.

Tax Implications

Expenditures prohibited under this provision attract a tax rate of 30%, in addition to the applicable interest, penalty, and prosecution provisions.

Expenses Disallowed on TDS Default

Certain payments to taxpayers must comply with the

TDS mechanism. If TDS due is not deducted appropriately, the expense will be disallowed, leading to higher taxes. The provisions connected with disallowance on account of TDS include the following constituent elements:

Payments Remitted in any Form (other than Salaries) outside India or to a Non-Resident or Foreign Company

Payments remitted for this purpose could be in the form of interest, royalty, technical fee, etc. Defaults pertaining to this provision could result in the following consequences.

Nature of Default	Expenses Deductible in Current Year (Quantum of Disallowance)	Expenditure Deductible in any Financial Year
Tax-deductible but not deducted	Totally disallowed	Expenses deducted in the subsequent year as expenses are allowed in the year of tax deduction and remittance
Tax deducted but not deposited before the due date of filing ITR	Totally disallowed	Expenses deducted after the due date of IT return is allowed in the year in which the tax is deposited

Payments Remitted as Salaries outside India or to a Non-Resident without TDS Deduction

Any sum remitted as salaries to a person who is located out of the Indian jurisdiction or to a non-resident without TDS deductions is disallowed as an expenditure. The implications for the same are tabulated below:

Nature of Default	Expenses Deductible in Current Year (Quantum of Disallowance)	Expenditure Deductible in any Financial Year
Tax-deductible but not deducted	Totally disallowed	Expenses deducted in the subsequent year as expenses are allowed in the year of tax deduction and remittance
Tax deducted but not deposited before the due date of filing ITR	Totally disallowed	Expenses deducted after the due date of IT return is allowed in the year in which the tax is deposited

Pertinent Jurisprudence

Following are some of the recent court rulings which had its effect on these provisions:

Short deductions of TDS are not grounds for disallowance in the event of a shortfall on account of the difference in opinion.
The income enhanced due to disallowance under this provision can be allowed for granting of a deduction if the business qualifies for the deduction under Section 80IB (profits and gains from certain industrial undertakings).
Excess payment of tax in the previous year or pending tax refund of previous years do not hold grounds for non-deduction of TDS and the applicable TDS must be deducted.

Relief for Non-Deduction of TDS

Not all occasions on which the TDS was not deducted will result in a disallowance, as the taxpayer may claim relief on the following scenarios:

The recipient has filed the returns of income within the stipulated time.
The payment has been accounted for by the recipient during the filing of returns.
The recipient has remitted the appropriate tax payments on the declared income.
A certificate of the chartered accountant has been obtained and uploaded with the return for this purpose.

Expenses Disallowed for Default in Equalization Levy

In the event of any default on account of equalization levy with respect to a particular expenditure (which qualifies for deduction in equalization levy) through either of the following channels, the amount of such expenditure is prohibited:

Non-deduction of equalization levy.
Non-deposit of equalization levy prior to the date affixed for filing ITR returns.

However, the expenditure shall be allowed if the respective deposit or deduction is made in the subsequent year.

Cash Expenditures Disallowed

Taxpayers making cash payments for their goods or services are allowed as expenditures under this provision if the sum of such payment is less than Rs. 20,000. Taxpayers making remittances above this limit may do so in the form of an account payee cheque, account payee bank draft, bank transfer, and so on. Certain payments, a list of which is provided in Rule 6DD, is allowed as expenses for payments remitted through cash mode, irrespective of the sum remitted in total. A few of the admissibilities are mentioned below:

Payments made to financial institutions
Payments made to the government
Payments made through book adjustments
Payments made for the procurement of agricultural products
Payments made to specific cottage industries
Payments made to a person domiciled in a rural area where there is genuine inadequacy of banking facilities
Payments made towards employment terminal benefits
Payment of salary after the appropriate deduction of TDS
Payments remitted on a government holiday during which the banks are not functioning
Payments made by a forex dealer

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Frequently Asked Questions

Common questions about Expenses Disallowed Under Income Tax: Key Implications.

The main reasons for disallowance of expenses under the Income Tax Act are: a) If the tax deductible at source (TDS) on certain expenses was not deducted while making the payment. b) If the expenditure is not related to the conduct of the assessee's business or profession.

Disallowed expenses under the head "Profits and Gains of Business or Profession (PGBP)" attract a tax rate of 30%, in addition to the applicable interest, penalty, and prosecution provisions. The disallowed amount is added back to the net profits, increasing the taxable income.

If TDS is not deducted on payments made outside India or to non-residents or foreign companies, such as interest, royalty, technical fees, etc., the entire expense will be disallowed. The expense can be claimed as a deduction in the subsequent year when the TDS is deducted and deposited.

Any salary payments made to individuals located outside India or to non-residents without deducting TDS will be disallowed as an expense. The expense can be claimed as a deduction in the subsequent year when the TDS is deducted and deposited.

Yes, relief from disallowance can be claimed if the recipient has filed the returns of income within the stipulated time, accounted for the payment, paid the appropriate tax, and obtained a certificate from a chartered accountant.

Cash expenditures of Rs. 20,000 or less are allowed as expenses. For cash payments exceeding Rs. 20,000, the payment should be made through account payee cheque, bank draft, or bank transfer. However, certain payments listed in Rule 6DD are allowed in cash mode, irrespective of the amount.

Yes, if there is a default in the deduction or deposit of equalization levy on an expenditure that qualifies for the levy, the amount of such expenditure will be disallowed. However, the expense can be claimed as a deduction in the subsequent year when the levy is deducted or deposited.

Recent court rulings have clarified that short deductions of TDS are not grounds for disallowance if there is a difference in opinion. Income enhanced due to disallowance can be allowed for deduction under Section 80IB (profits and gains from certain industrial undertakings). Pending tax refunds do not justify non-deduction of TDS.

Yes, disallowed expenses can be claimed as a deduction in the subsequent year when the appropriate tax deduction or payment is made, or when the necessary conditions for allowance are met.

Disallowed expenses are added back to the net profits, increasing the taxable income. This results in a higher tax liability for the assessee.