Understanding MSME and the 45-Day Payment Clause: Implications and Solutions

The MSME Development Act came into existence in 2006, and after 14 years, it underwent a revision as part of the Atmanirbhar Bharat package on May 13, 2020. Following numerous changes, all manufacturing, service industries, wholesale, and retail trade entities that meet the MSME classification criteria of annual turnover and investment, as illustrated in Figure 2.1, can apply for MSME registration and fall under its purview.

Classification	Investment	Annual Turnover
MICRO	<= Rs.1 crore	<= Rs.5 crore
SMALL	<= Rs.10 crore	<= Rs.50 crore
MEDIUM	<= Rs.50 crore	<= Rs.250 crore

What is the 45 Days payment clause in MSME?

Before delving into this clause, let’s understand Section 43B Clause in the income tax act, which stipulates that certain expenses can only be claimed as deductions in the year of actual payment, not when the liability to pay such expenses is incurred.

For instance: Let’s consider XYZ Company’s accounting year ending on March 31 and the due date for filing Income Tax being November 30 for the FY 23-24. If Company XYZ contributes 10 lakh to Employee Provident Funds (EPF) in FY 23-24 and pays it before November 30, it can claim the deduction of 10 lakh in FY 23-24, which is the Assessment year 24-25. However, if it pays after November 30, the deduction can be claimed in FY 24-25, the Assessment year 25-26.

Now, a new clause has been added under the income tax act, Section 43B Clause (h), which pertains to payments to Micro or Small enterprises. According to Section 43B Clause H, any enterprise falling under MICRO or SMALL must clear their payments as per the agreement between the two parties. The agreement must be within 45 days, and if no agreement exists, the payment should be made within 15 days.

Here are some clarifications:

• This clause is effective from April 1, 2023, meaning any pending payments in the Financial year 23-24 or Assessment 24-25 should adhere to the act.
• It does not include Medium enterprises, implying that enterprises with an investment under 10 crore or under 50 crore are not subject to this act as of now.
• The payment agreement between parties should be within 45 days; otherwise, it automatically becomes 15 days.
• If payment is not made on time, compound interest at three times the RBI rates applies, meaning interest must be paid on pending payments to the seller.
• Only manufacturer and service enterprises fall under this clause; traders are not considered.
• Most Importantly, payments not made on time will be added to your income.

Let’s understand the last point with an example: If Company XYZ’s sales are 10 lakhs and it makes purchases of 7 lakhs (100 Number of invoices), resulting in a profit of 3 lakhs. The company has to pay tax at 30% on 3 lakhs, and the net profit will be 2.10 lakhs. However, with the application of Section 43B Clause (H), if 10 invoices’ payments totaling 1 lakh are still pending after 45 days, the tax on the amount of 4 lakhs will be levied, and the net profit will be 1.80 lakhs [3 lakhs – 1.20 lakhs (30% of 4 lakhs)]. The pending payment of 1 lakh will be claimed in the next year.

What should you do now? If you fall under this criterion, consider the following:

1. • Generally, MSME details are available on the invoice, so check the invoice and make payments according to the payment agreement.

1. • Otherwise, inquire about the MSME status of each creditor individually and take necessary actions.

1. • Check their MSME status on the Udyam site for better clarification.

How to solve this problem? Seek help from your CAs. You can also take the following measures:

1. • Add capital through loans, CCs, ODs to clear the creditors.

1. • Add capital through your cash reserves.

There are concerns in the textile industry about how this might impact their relationships with their suppliers and buyers, who often operate on credit systems. Others worry about its compatibility with our current system. There may be relief on this proposal as the Department of Revenue is reviewing it to assess if any changes are possible.

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