Section 194M of the Income Tax Act

In the ever-evolving landscape of Indian taxation, the legislature frequently introduces provisions designed to strengthen compliance and enhance transparency. With the rise of high-value financial transactions, particularly within the domains of stockbroking, portfolio management, and consultancy, the need for robust mechanisms to track payments has become paramount. To address gaps where tax was often evaded due to non-audited individuals or Hindu Undivided Families (HUFs), Section 194M of the Income Tax Act was introduced.

This section ensures that certain categories of high-value payments made by individuals and HUFs to contractors, professionals, and brokers are brought into the tax net through the mechanism of Tax Deducted at Source (TDS). For stakeholders such as investors, stockbrokers, consultants, and financial advisors, an understanding of this section is essential to maintain compliance and avoid punitive consequences.

What is Section 194M?

Section 194M of the Income Tax Act governs the deduction of TDS on payments made by individuals or HUFs to resident contractors, professionals, and intermediaries such as brokers. The unique feature of this section is its applicability to payers who are ordinarily not subject to a tax audit under other provisions.

Traditionally, provisions such as Section 194C (contracts), Section 194H (commission), and Section 194J (professional services) applied primarily to businesses, firms, and audited individuals. However, several high-value payments made by those outside the audit ambit escaped scrutiny. Section 194M was, therefore, introduced to bridge this gap and bring such payments into the TDS framework.

Applicability of Section 194M

The provision applies where:

• An individual or HUF, not otherwise liable to deduct TDS under Sections 194C, 194H, or 194J, makes specified payments.
• Payments exceed ₹50,00,000 in a financial year to a resident contractor, professional, or broker.
• Such payments are in the nature of contractual fees, professional service charges, or commissions (other than insurance commission).

This applicability is particularly relevant in contexts such as:

• High-net-worth investors engaging consultants or portfolio managers.
• Stockbrokers settling significant brokerage or advisory fees.
• Individuals and HUFs undertaking construction contracts, legal consultations, or financial advisory engagements.

Entities such as companies or firms, or those already deducting TDS under Sections 194C, 194H, or 194J, fall outside the scope of Section 194M.

Threshold limit under Section 194M

A crucial element of this section is the threshold exemption limit of ₹50,00,000 per financial year, per recipient. Only payments exceeding this threshold attract TDS obligations under Section 194M.

For comparative clarity:

This higher threshold reflects the intent of the legislature: to target substantial transactions without burdening smaller or routine payments.

194M TDS rate

The 194M TDS rate has undergone a significant amendment. Initially, the rate was set at 5 per cent. However, with effect from October 1, 2024, the rate was reduced to 2 per cent to ease compliance and reduce cash flow constraints for payees.

Where the payee fails to provide a Permanent Account Number (PAN), the rate is elevated to 20 per cent, in line with the overarching penalty structure under the Act.

This amendment represents a pragmatic balancing act between ensuring tax compliance and reducing the tax burden for those engaged in large contractual or professional engagements.

Payments covered under Section 194M

The section covers three broad categories of payments:

1. Contractual payments – These include payments for labour, construction contracts, outsourcing arrangements, and service contracts. For instance, in the stockbroking industry, contractual arrangements for IT systems, compliance management, or back-office operations would fall within this ambit.
2. Professional services – Payments for services rendered by legal advisors, chartered accountants, auditors, consultants, IT specialists, and portfolio managers.
3. Commission or brokerage – Any payment in the nature of commission or brokerage, other than insurance commissions, which are separately governed under Section 194D.

Exemptions under Section 194M

Certain transactions remain exempt from the purview of this section:

• Payments made by companies or firms, as these are already bound by other TDS provisions.
• Transactions where payments do not exceed the threshold of ₹50,00,000 in a financial year.
• Insurance commission payments, explicitly carved out and covered under Section 194D.

This ensures that only targeted, high-value transactions by individuals and HUFs are brought under the compliance net.

Compliance requirements

Compliance with Section 194M of the Income Tax Act is relatively streamlined compared to other TDS provisions.

1. TAN not required – Unlike many TDS obligations, the deductor under Section 194M need not obtain a Tax Deduction Account Number (TAN).
2. Deposit of TDS – Deducted tax must be deposited using Form 26QD, within 30 days from the end of the month in which deduction occurs.
3. TDS certificate – The payer must issue Form 16D to the payee within 15 days of filing Form 26QD.
4. Record-keeping – Given the large sums typically involved, meticulous documentation of payments, deductions, and deposits is essential to avoid scrutiny or penalties.

Filing and reporting of TDS under Section 194M

Every transaction exceeding the threshold must be reported as follows:

• File Form 26QD for each qualifying payment.
• Issue Form 16D to the payee promptly.
• Ensure the timely remittance of tax to the government, as delays attract interest and late fees under the Income Tax Act.

For professionals and brokers handling multiple clients, ensuring robust reporting systems is particularly important.

Comparison with Section 194C and Section 194J

The distinctions between Section 194M, Section 194C, and Section 194J can be illustrated as follows:

This comparison highlights how Section 194M operates as a bridge for those outside the audit net, ensuring parity of treatment with entities already subject to similar obligations.

Consequences of non-compliance

Failure to comply with the provisions of Section 194M can lead to significant repercussions, including:

• Interest liability for delayed deduction or deposit of TDS.
• Penalties and prosecution in cases of wilful default.
• Disallowance of expenditure when computing taxable income, thereby inflating the tax burden.

In stockbroking or financial services, where reputation is paramount, non-compliance also risks reputational damage and regulatory scrutiny.

Practical examples and case studies

Example 1

A stockbroker engages a compliance consultancy for ₹60,00,000 in the financial year 2024–25. As the broker is not otherwise subject to audit obligations under Sections 194C or 194J, TDS under Section 194M applies. At 2 per cent, ₹1,20,000 must be deducted and deposited with the government.

Example 2

An investor pays ₹55,00,000 in commission to a resident broker within a financial year. Since the amount exceeds the threshold, TDS at 2 per cent under Section 194M must be deducted and remitted.

These examples underscore how individuals and HUFs engaging in high-value financial activity are captured under this provision.

Recent updates and amendments

The key legislative development has been the reduction of the 194M TDS rate from 5 per cent to 2 per cent, effective October 1, 2024. While the threshold and compliance procedures remain unchanged, this reform significantly alleviates the immediate financial outflow burden for payees, without diluting the compliance intent of the law.

Key takeaways

• Section 194M of the Income Tax Act ensures high-value payments by individuals and HUFs are subject to TDS, plugging earlier loopholes.
• The threshold limit of ₹50,00,000 per year ensures only substantial payments are covered.
• The current 194M TDS rate is 2 per cent, effective from October 1, 2024.
• Compliance is simplified as no TAN is required, though timely filing of Form 26QD and issuance of Form 16D is mandatory.
• Non-compliance invites penalties, interest, and reputational consequences.

Conclusion

Section 194M of the Income Tax Act plays a vital role in ensuring transparency and accountability in India’s financial ecosystem, particularly in sectors such as stockbroking and consultancy where large contractual and professional payments are commonplace. By targeting individuals and HUFs not otherwise covered by audit-linked TDS provisions, the legislature has effectively broadened the compliance net.

The revision of the 194M TDS rate to 2 per cent from October 1, 2024, reflects a balanced approach: maintaining oversight while reducing immediate financial strain. For professionals, brokers, and investors alike, meticulous compliance with this section is not merely a legal obligation but a prudent strategy to foster credibility and trust in financial dealings