Within the ever-changing Indian economy, Micro, Small, and Medium Enterprises (MSMEs) are crucial, making substantial contributions to employment, industrial output, and exports. The government has taken a crucial step to protect the interests of firms facing obstacles such as liquidity issues and delayed payments, aiming to ensure their survival. Section 43B(h) of the Income Tax Act, 1961, establishes the "New MSME 45 Days Payment Rule" to guarantee timely payments to MSMEs for their products and services. This regulation serves as more than just a financial guideline; it acts as a driving force for creating a business environment that is more encouraging and fair, stressing the importance of promoting the growth and stability of micro, small, and medium enterprises. The rule highlights the significance of making payments to MSMEs promptly to provide them with the essential cash flow needed for efficient operation, innovation, and growth.

With the help of this article let us understand what this new rule illustrates and its impact, objective, benefits,challenges and applicability within the income tax Act.

What is an MSME

MSME means micro,small and medium enterprises. In india the MSME development Act came into existence in 2006, atma nirbhar bharat package on 13th may, 2020 announced its revised definition (contained in section 7 of the MSME Development Act,2006 ) which is as follows-

Micro Enterprises: Enterprises where the investment in plant and machinery or equipment does not exceed one crore rupees and turnover does not exceed five crore rupees.

Small Enterprises: Enterprises where the investment in plant and machinery or equipment does not exceed ten crore rupees and turnover does not exceed fifty crore rupees.

Medium Enterprises: Enterprises where the investment in plant and machinery or equipment does not exceed fifty crore rupees and turnover does not exceed two hundred and fifty crore rupees.

MSMEs in India are a crucial component of the country's economic structure. They have a crucial role in fostering economic growth, innovation, and job creation. The Ministry of MSME states that these firms provide a substantial contribution to India's manufacturing production, exports, and GDP, as well as employment to a significant number of people.

The above image depicts the dedicated website launched for MSME’s by the government of India to foster their development and to launch schemes to support and foster their growth.

Why MSME’s Are Important

MSMEs contribute around 30% to India's GDP, fostering economic growth. 

They have a crucial role in promoting economic growth and progress, especially in rural and underdeveloped areas.

MSMEs are a major contributor to employment in India due to their labor-intensive nature. They employ about 120 million people, making them the second-largest sector for creating employment after agriculture.

India's exports are boosted by MSMEs, which account for around 48% of the total, demonstrating the competitive nature of MSME products on the global stage.

By encouraging equal growth, MSMEs contribute to minimising income gaps. They are essential in offering possibilities for both skilled and unskilled workers.

What Are The Tax Obligations Upon MSMEs

Small and medium-sized enterprises (SMEs) have multiple tax responsibilities as outlined in the Income Tax Act, such as:

Tax Returns: Every year, small and medium-sized businesses (SMBs) are required by law to submit tax returns detailing their revenue, expenditures, and any other pertinent financial data to the appropriate tax authorities.

When it comes to paying vendors, contractors, or professionals, micro, small, or medium-sized enterprises (MSMEs) may be obligated to withhold tax at source (TDS) and remit the amount to the government.

If the income tax threshold restrictions for turnover or gross receipts are exceeded, a tax audit may be necessary for MSMEs.

In order to minimise their tax liabilities and maximise their tax management responsibilities, MSMEs must adhere to the numerous tax planning techniques, incentives, and deductions that are available under the Income Tax Act.

If a micro, small, or medium enterprises (MSMEs') expected tax liability is more than the specified threshold limitations, the MSMEs may be obliged to make advance tax payments in instalments throughout the financial year.

Financial Act 2023 & MSME

The Finance Act 2023 introduced a crucial amendment by inserting Section 43B(h) to the income tax Act, which outlines that any outstanding sum owed to Micro, Small, and Medium Enterprises (MSMEs) for goods supplied or services rendered can be deducted in the same year if it is paid within the deadline set by the Micro, Small, and Medium Enterprises Development (MSMED) Act, 2006.

This amendment is designed to tackle the challenge of working capital shortages in the MSME sector and encourage timely payments to micro and small businesses. The amendment will apply to the assessment year 2024–2025 and subsequent years, taking effect from April 1, 2024.

Payment Period As Per MSMED Act,2006

The payment period is defined in section 15 as under:  

“Section 15: Liability of buyer to make payment.  

Where any supplier supplies any goods or renders any services to any buyer, the buyer shall make payment therefor on or before the date agreed upon between him and the supplier in writing or, where there is no agreement in this behalf, before the appointed day: Provided that in no case the period agreed upon between the supplier and the buyer in writing shall exceed forty-five days from the day of acceptance or the day of deemed acceptance.”

Appointed day is defined under section 2(b) of the Act which states-

"Appointed day' means the day following immediately after the expiry of the period of fifteen days from the day of acceptance or the day of deemed acceptance of any goods or any services by a buyer from a supplier.

Therefore -

Payment period will be -

If there is an agreement: Agreement date or 45 Days Whichever is Earlier
If there is no Agreement: 15 Days (Appointed date is defined as 15 days in section 2(b) of the MSMED Act, 2006)

Intricacies Of 45 Day Payment Rule

Role of MSMEs: MSMEs are integral to the Indian economy, driving employment generation and economic growth. However, delayed payments from buyers have posed a persistent challenge for MSMEs, impacting their cash flow and operational efficiency.

Section 43B of the Income Tax Act: Section 43B governs the eligibility for deductions in computing income under the head "Profits and gains of business or profession." It outlines various expenses for which deductions are allowed, subject to specific conditions.

Introduction of Section 43B(h) to the income Tax Act: Section 43B(h) was introduced to provide relief to MSMEs by mandating timely payments for goods supplied or services rendered. It stipulates that any sum owed to MSMEs must be deducted in the same year if paid within the deadline specified by the Micro, Small, and Medium Enterprises Development (MSMED) Act, 2006.

45 Days Payment Rule: The "New MSME 45 Days Payment Rule" requires buyers to make payments to MSME suppliers within 45 days from the date of acceptance or deemed acceptance of goods or services, as per the agreed terms and conditions of the contract.

Implications: Enforcing the 45-day payment rule aims to foster payments, enhancing the cash flow of MSMEs and strengthening the regulatory framework for MSME payments. This provision is crucial in supporting the growth and sustainability of MSMEs in the Indian economy.

Compliance: MSMEs must adhere to the payment terms specified in the MSMED Act, 2006, to benefit from the New MSME 45 Days Payment Rule. Buyers are obligated to ensure timely payments to MSME suppliers within the stipulated time frame to avail tax deductions under this provision.

Example To Understand The 45 days Rule

Suppose  an MSME, ABC Enterprises, provides goods to a buyer, XYZ Corporation, as per a contract. According to the terms agreed upon in the contract, XYZ Corporation is obligated to make the payment to ABC Enterprises within 45 days from the date of acceptance of the goods.

Here's how the scenario unfolds:

ABC Enterprises delivers the goods to XYZ Corporation on January 1, 2024.

As per the contract terms and the 45 days payment rule, XYZ Corporation is required to make the payment to ABC Enterprises by February 15, 2024 (45 days from January 1, 2024).

If XYZ Corporation makes the payment to ABC Enterprises on or before February 15, 2024, it complies with the 45 days payment rule. In this case, XYZ Corporation can avail of any applicable tax deductions under Section 43B(h) of the Income Tax Act.

However, if XYZ Corporation fails to make the payment within the stipulated time frame, it would be in violation of the 45 days payment rule. In such a scenario, XYZ Corporation may incur penalties or interest as per the provisions of the MSMED Act, 2006, and related regulations.

Timely payments from buyers like XYZ Corporation are crucial for the financial health and sustainability of MSMEs like ABC Enterprises. Delays in payments can affect the cash flow and operations of MSMEs, potentially hindering their growth and development.

Applicability/Effective Date/Time Limit Of Section 43B(h)

Registration of the buyer under the MSMED Act 2006 is not important, only the enterprise from which it is buying goods or taking services from must be registered under the Act.

The 45 days rule is not applicable upon wholesale and retail traders entitled to udyam registration.

The applicability of clause (h) of Section 43B is from April 1, 2024. This amendment is made applicable from assessment year (AY) 2024-25, that is, Financial Year (FY) 2023-24.

In presence of a written agreement the time limit will be 45 days 

In absence of a written agreement time limit of payment will be 15 days

Penalties Imposed Upon Breaking The 45 days Payment Rule

Buyers who fail to make payments to MSME suppliers within the stipulated time frame may be liable to pay interest on the overdue amount. The rate of interest is usually prescribed by the government and may be higher than the prevailing market rates to incentivize prompt payments.

Buyers  may be subject to penalty charges or fines for delayed payments. These penalties are intended to deter late payments and compensate MSMEs for any financial losses or inconvenience caused by the delay.

In severe cases of non-compliance, MSME suppliers have the option to take legal action against buyers to recover the outstanding payments. This may involve filing a complaint with the appropriate authorities or initiating legal proceedings through civil courts to enforce payment.

Repeat offenders who consistently fail to make timely payments to MSME suppliers may face blacklisting or exclusion from government contracts or other business opportunities. This can have significant repercussions for the reputation and credibility of the defaulting entity.

Late payments can also damage the reputation of the defaulting buyer in the business community. Suppliers may hesitate to enter into future contracts or business relationships with entities known for delayed payments, impacting their ability to conduct business effectively.

Benefits Of 45 Days Rule

Enhanced cash flow for MSMEs is achieved by receiving payments promptly within 45 days, enabling better management of working capital. Consequently, this enables MSMEs to cover their operational costs, settle payments to suppliers, and fund business expansion without encountering cash flow limitations.

Improved financial stability: Timely payments help enhance the financial stability of MSMEs by decreasing the likelihood of payment delays and the resulting financial pressure. MSMEs can achieve sustained growth and development by confidently planning and executing business strategies with constant cash flow.

Establishing positive business relationships by following the 45-day payment policy enhances trust and builds goodwill between purchasers and MSME vendors. Buyers exhibit reliability and integrity by honouring payment promises on schedule, which helps improve their connections with MSMEs and may lead to long-term collaborations.

Adhering to the 45-day guideline guarantees that purchasers and MSME suppliers comply with the Micro, Small, and Medium Enterprises Development (MSMED) Act, 2006, and other regulations. This enhances transparency and equity in commercial dealings while also protecting the interests of MSMEs.

Buyers can receive tax deductions under Section 43B(h) of the Income Tax Act by making payments to MSME suppliers within the specified deadline. Buyers are encouraged to prioritise making timely payments to MSMEs, which helps in the overall growth and sustainability of the MSME sector.

Boosting Economic Growth: A flourishing MSME sector is crucial for stimulating economic growth and creating employment opportunities. The 45-day rule, by guaranteeing timely payments to MSMEs, fosters the expansion of small firms, encourages entrepreneurship, and enhances the overall economic development.

Challenges Followed By The 45 Days Rule

Buyers may face difficulties if they strictly adhere to the 45-day payment deadline due to cash flow issues or delays in collecting payments from their clients. Meeting payment deadlines promptly while preserving liquidity can be challenging for certain purchasers.

Operational limitations for MSMEs may persist despite the 45-day rule designed to enhance cash flow. Payment delays from purchasers might arise owing to factors like administrative inefficiency, invoicing disputes, or shifts in market circumstances. Delays can harm the operational and financial stability of MSMEs.

Regulatory authorities must establish adequate monitoring and enforcement methods to ensure compliance with the 45-day rule. Inadequate enforcement mechanisms may lead to non-compliance by buyers, diminishing the rule's intended benefits for MSMEs. MSMEs may encounter difficulties in confirming and implementing payment deadlines, particularly when engaging with prominent and well-established purchasers.

The 45-day policy could lead to discussions between buyers and MSME suppliers on payment terms and conditions. MSMEs may request shorter payment terms to enhance cash flow, whilst purchasers may favour longer credit periods to efficiently manage their working capital. It can be difficult to balance these opposing interests and may necessitate concessions from both sides.

Enforcing the 45-day rule strictly without taking into account the individual situations of customers and MSME suppliers could damage commercial ties.

Both purchasers and MSME suppliers may experience a higher level of administrative work to comply with the 45-day guideline.

Conclusion -

The  45 days rule introduced under Section 43B(h) of the Income Tax Act aims to promote timely payments to Micro, Small, and Medium Enterprises (MSMEs) and enhance their financial stability, but its implementation is not without challenges. Compliance issues, monitoring and enforcement difficulties,dispute resolution problems, financial issues.However, addressing these challenges requires efforts from various people, including policymakers, regulatory authorities, industry associations, buyers, and MSMEs.