Disallowance under Section 40A(3) of Income Tax Act and exception of the same as per Rule 6DD of Income Tax Rules
Where the assessee incurs any expenditure in respect of which a payment or aggregate of payments made to a person in a day, otherwise than by an account payee cheque drawn on a bank or account payee bank draft, exceeds twenty thousand rupees, no deduction shall be allowed in respect of such expenditure.
[Provided further that in the case of payment made for plying, hiring or leasing goods carriages, the provisions of sub-sections (3) and (3A) shall have effect as if for the words "twenty thousand rupees", the words "thirty-five thousand rupees" had been substituted.]
Interpretation of Section 40A(3)
- Section 40A(3) of Income Tax Act 1961 provides that where the assessee incurs any expenditure in respect of which a payment or aggregate of payments made to a person in a day, otherwise than by an account payee cheques drawn or account payee bank draft exceeds Rs. 20,000/-, no deduction shall be allowed in respect of such expenditure.
However with effect from 01.09.2009, in the case of payments made for plying, hiring or leasing goods carriage, the amount shall not exceed Rs. 35,000/-.
- Any payment made during the previous year, for which deduction is allowed on accrual basis in any preceding previous year, otherwise than by way of account payee cheque or account payee demand draft, then the payment so made shall be deemed to be the business income in the previous year in which such payment is made.
- However, no disallowance shall be made u/s 40A(3) in case such payments have been made under any specific circumstances as may be prescribed, having regard to:
- The nature and extent of banking facilities available;
- Business expediency considerations, and;
- Other relevant factors.
- This provision shall not apply in respect of expenditure for which no deduction is claimed. For example, if land is purchased by remitting cash, no disallowance ca be made u/s 40A(3). Similarly, if machinery is purchased by remitting cash in excess of the prescribed limit, no disallowance can be made as the assessee does not claim any deduction for the machinery but only avails depreciation allowance at the prescribed percentage. On the other hand, if equipment is purchased for scientific research and deduction is claimed under section 35, then the provision of section 40A(3) shall apply if payment is made in cash.
Rule 6DD Exceptions
No disallowance under sub-section (3) of section 40A shall be made where any payment in a sum exceeding[twenty thousand] rupees is made otherwise than by a crossed cheque drawn on a bank or by a crossed bank draft in the cases and circumstances specified here under, namely:
(a) where the payment is made to
- the Reserve Bank of India or any banking company as defined in clause (c) of section 5 of the Banking Regulation Act, 1949 (10 of 1949);
- the State Bank of India or any subsidiary bank as defined in section 2 of the State Bank of India (Subsidiary Banks) Act, 1959 (38 of 1959);
- any co-operative bank or land mortgage bank;
- any primary agricultural credit society or any primary credit society as defined under section 56 of the Banking Regulation Act, 1949 (10 of 1949);
- the Life Insurance Corporation of India established under section 3 of the Life Insurance Corporation Act, 1956 (31 of 1956):
(b) where the payment is made to the Government and, under the rules framed by it, such payment is required to be made in legal tender;
(c) where the payment is made by
- any letter of credit arrangements through a bank,
- a mail or telegraphic transfer through a bank;
- a book adjustment from any account in a bank to any other account in that or any other bank;
- a bill of exchange made payable only to a bank;
- the use of electronic clearing system through a bank account;
- a credit card;
- a debit card.
Explanation: For the purposes of this clause and clause (g), the term “bank” means any bank, banking company or society referred to in sub-clauses (i) to (iv) of clause (a) and includes any bank [not being a banking company as defined in clause (c) of section 5 of the Banking Regulation Act, 1949 (10 of 1949)], whether incorporated or not, which is established outside India;
(d) where the payment is made by way of adjustment against the amount of any liability incurred by the payee for any goods supplied or services rendered by the assessee to such payee;
(e) where the payment is made for the purchase of
- agricultural or forest produce; or
- the produce of animal husbandry (including livestock, meat, hides and skins) or dairy or poultry farming; or
- fish or fish products; or
- the products of horticulture or apiculture, to the cultivator, grower or producer of such articles, produce or products;
(f) where the payment is made for the purchase of the products manufactured or processed without the aid of power in a cottage industry, to the producer of such products;
(g) where the payment is made in a village or town, which on the date of such payment is not served by any bank, to any person who ordinarily resides, or is carrying on any business, profession or vocation, in any such village or town;
(h) where any payment is made to an employee of the assessee or the heir of any such employee, on or in connection with the retirement, retrenchment, resignation, discharge or death of such employee, on account of gratuity,’ retrenchment compensation or similar terminal benefit and the aggregate of such sums payable to the employee or his heir does not exceed fifty thousand rupees;
(i) where the payment is made by an assessee by way of salary to his employee after deducting the income-tax from salary in accordance with the provisions of section 192 of the Act, and when such employee
- is temporarily posted for a continuous period of fifteen days or more in a place other than his normal place of duty or on a ship and
- does not maintain any account in any bank at such place or ship;
(j) where the payment was required to be made on a day on which the banks were closed either on account of holiday or strike;
(k) where the payment is made by any person to his agent who is required to make payment in cash for goods or services on behalf of such person;
(l) where the payment is made by an authorized dealer or a money changer against purchase of foreign currency or travelers cheques in the normal course of his business
- Section 40A(3) provides for disallowance of entire expenditure where the payment for the same is made otherwise than by account payee cheque drawn on a bank or account payee bank draft. Where the payment made is less than Rs.20,000 in respect of an invoice which is more than Rs. 20,000, disallowance u/s 40A(3) shall not be made.
- In a case where books of account produced by the assessee is not reliable or satisfactory to the assessing officer and estimates the income applying gross profit rate, the AO shall not disallow some expenditure based on the entries appearing in the books of account, so rejected. The Allahabad High Court in CIT Vs. Banwari Lal Banshidhar (1998) 229 ITR 229; CIT Vs. Smt. Santosh Jain (2008) 296 ITR 324 (P&H) while endorsing this view held that once the books are rejected and income is estimated, it is implied that no expenditure is specifically allowed. Therefore, applying specific provisions of this statue in order to make disallowance is not warranted.
- Authorized dealer or money changer means a person authorized as an authorized dealer or money changer to deal in foreign currency or foreign exchange under any law for the time being in force.
- Fish or Fish Products include other marine products such as shrimp, pawn, cuttlefish, squid, crab, lobster etc; The ‘producers of fish or fish products’ for the purpose of this Rule would include, besides the fisherman, any headman of fisherman who sorts the catch of fish brought by fisherman from the sea, at the sea shore itself and then sells the fish or fish products to traders, exporters etc. The above exception will not be available on the payment of purchase of fish or fish products from a person who is not provided to be a producer of these goods and is only a trader, broker or any other middleman, by whatever name called – Circular No -10/2008, dated 05.12.2008.
- CBDT vide Circular No. 8 of 2006 dated 06.10.2006 has clarified who are all considered to the producer of livestock and meat in the context of exception provided under Rule 6DD, Accordingly, any person, who buys animals from the farmers, slaughters them and the sells the raw meat carcasses to the meat producing factories or to the traders/retail outlets would be considered as producers of livestock and meat. It was further clarified that the benefit of Rule 6DD shall be available subject to furnishing of the following:
- A declaration from the person receiving the payment that he is a producer of meat;
- A confirmation that the payment, otherwise than by an account payee cheque or account payee draft, was made on his insistence; and
- A further confirmation from a veterinary doctor verifying that the person specified in the certificate is a producer of meat and that slaughtering was done under his supervision.
Some case laws:
- In CIT v K.K.S. K Leather Processor P. Ltd. 292 ITR 669(Mad.) it was held that payments made on a day on which the banks are closed either on account of holiday or strike, shall not come within the ambit of disallowance u/s 40A(3).
- In The Commissioner of Income-tax versus Vijay Kumar Goel  324 ITR 376 (Chattisgarh) it was held that From a reading of the definition of bill of exchange u/s 5 and cheque under section 6 of the Negotiable Instrument Act, 1881, it is clear the banker’s cheques/pay orders/ call deposit receipts are instruments which fall within the definition of bill of exchange. Hence payment made by the same could not be disallowed u/s 40A(3).
- Where Books of accounts have been rejected and profit has been estimated, it is deemed that all the expenses and disallowances have been considered. Hence no further disallowance u/s 40A(3) is permissible- CIT V. Smt Santosh Jain 296 ITR 324(P&H).