This article is written by Danish Ur Rahman S. This article exhaustively explains everything about Section 43B of the Income Tax Act, 1961. This article talks about the basics of deductions, methods of accounting, and their impact on claiming deductions and all other aspects of Section 43B of the Income Tax Act. It also focuses on the concept of allowing deductions on expenses only on actual payment of such expenses.

Introduction 

Taxation is the most complex but also the most important subject in the field of law. Taxes are the primary revenue for the government to carry out its functions. The sovereign authority, in case of India, the government, has the right to impose tax on any person for any financial transaction. There are various kinds of taxes like income tax, Goods and Services Tax (GST), sales tax, customs tax, electricity duty, capital gains tax, etc., and the government has the right to make any law concerning any procedure to impose taxes. 

This article deals with deductions and their mode of claiming. The claiming of deductions is determined by various factors, like the method of accounting by the taxpayer. Section 43B of the Income Tax Act, 1961 (hereinafter mentioned as “Act, 1961”), provides that deductions for certain expenses can be allowed only when such expenses are paid, irrespective of the method of accounting employed by the taxpayer. Section 43B was enacted by the legislature to curb irregular and unlawful deductions for expenses that were not even paid. 

This article will focus on all the aspects of Section 43B, its general rule, practical aspects, judicial interpretation, and exceptions in detail. Let us first understand what is meant by deduction in taxation. 

What are deductions

Deductions are one of the most ancient concepts in the field of taxation law. The concept of deductions has been followed by people from time immemorial. As we all know, payment of taxes to the government is mandatory, and no one can escape without paying the taxes to which he or she is liable to pay. Just like any other country, the people in India also want to reduce their tax liability in one way or another. Deductions are one of the most important and common ways of reducing the actual tax liability of a taxpayer. Deductions or tax deductions normally refer to claims made before the government to reduce a taxpayer’s tax-paying liability. 

Deductions are the amount that can be deducted from a person’s total tax amount payable to the government which eventually reduces his tax liability. Deductions are used by taxpayers to deduct some of the important expenses that they spend in their lives. 

Normally deductions are used by the taxpayers while they file tax returns at the end of their applicable respective year, wherein they subtract some expenses as deductions from their total tax liability. The time of incurring such expenses can vary according to the audit method of the taxpayer. 

The time of deductions also varies according to the audit method of the taxpayer. Some taxpayers deduct expenses from their total tax payable and eventually reduce their tax liability even before they pay for those expenses. This created a problem because even before the payment was made for an expense, the taxpayers deducted those expenses from their tax liability and paid less taxes than they had to pay. Section 43B is one of the best solutions to solve this problem. 

Why deductions are used while computing income tax in India

Tax deductions refer to claims made by a taxpayer to deduct certain amounts, from his or her tax liability, arising from various expenses and investments. Generally, if a taxpayer has incurred certain expenses, then he is entitled to deduct those expenses from his total gross income based on which he is entitled to pay taxes according to the applicable tax rates, and that would eventually reduce the taxpayer’s tax liability. Some of the most important and common kinds of deductions include expenses relating to Public Provident Funds (PPF), Bank Fixed Deposits (FDs), Senior Citizen Savings Schemes (SCSS), Home Loan EMIs, Mutual Funds, other investments, life insurance premiums, registration fee or duty, stamp duty, retirement savings plan, paid house rents, educational expenses, healthcare expenses, charitable contributions, etc.

It is to be noted that tax deductions and tax exemptions are used to lower a taxpayer’s overall tax liability, but they are two completely different concepts. Tax deductions are certain expenses incurred by a taxpayer to reduce his income tax liability by deducting certain expenses or investments from the amount for which income tax has to be paid according to the applicable tax rates. Whereas, tax exemptions mean a complete relief or complete forgiveness from paying tax for any particular income or an amount. Both tax deductions and tax exemptions are used by the government to encourage taxpayers to be involved in certain financial and social transactions. Both of these important concepts can be best understood with the help of examples. 

Illustration: A social worker X, who runs a business, regularly donates some money to charitable institutions and certain disaster relief funds, X is exempt from any taxes in these transactions. Thus, X can be said to have tax exemption on the amount that he spends for charity. Similarly, teacher Y, who gets a salary from a teaching school, pays life insurance premiums for her and her family, and she can deduct these expenses from paying insurance premiums from her total tax liability. Thus, Y can be said to have tax deductions on the amount that he spends on insurance premiums or any similar expenses. 

In both of these hypothetical situations, the government wants the wealth of the taxpayers to be used in different kinds of financial transactions. For example, the government wants the taxpayers to participate in certain programs to provide deductions, and similarly, the government wants the taxpayers to invest or spend money on certain sectors to provide tax exemptions.  

Kinds of accounting method

The kind of accounting method for computing the purpose of computing the tax liability of a taxpayer plays a vital role with respect to the taxpayer’s ability to claim deductions. Generally, two kinds of accounting methods are commonly used in India, and they are listed as follows. 

1. Cash method of accounting; and
2. Mercantile or accrual method of accounting.

In cash-based accounting, transactions are recognized by the accounting system when cash is actually received or actually paid, while in an accrual accounting method or a mercantile accounting method, the accounting system records a transaction when the right to earn income is established or when expenditure is committed.

Section 43B of the Act, 1961 was enacted to curb the practices of claiming unlawful and unreasonable deductions without actual payment of the expenses through the help of mercantile or accrual methods of accounting.

Section 43B of the Income Tax Act

Deductions under Section 43B of the Act, 1961 are completely different from the deductions provided under other provisions of the Act, 1961. In most of the other provisions of the Act, 1961 that deal with deductions, the deduction is for certain expenses incurred by the taxpayer to which he can claim deductions.

However, the deductions under Section 43B of the Act, 1961 are mostly liabilities on the part of the taxpayer who is obliged to pay for the expenses that are mentioned in Section 43B. Section 43B of the Act, 1961 deals with the allowing of certain deductions on certain expenses only when such expenses are paid by the taxpayer and not when they have been incurred as per the accounting methods of the taxpayer. Thus, Section 43B states that certain deductions are to be allowed only on actual payment of the expenses for which the deduction is claimed. Moreover, Section 43B only focuses on expenses that are statutory liabilities imposed by the government.

Section 43B of the Act, 1961 was not present during the inception of the Act, 1961, 1961, it was originally inserted by the Finance Act, 1983 and it is one of the most important provisions regarding deductions in the Act, 1961. 

Deductions covered under Section 43B

Section 43B allows deductions for certain expenses that are listed below only when such expenses are paid. Most of these expenses are statutory liabilities that have to be paid by the taxpayers who are liable for paying those expenses under the respective statutes. There are two most important objectives of Section 43B, first, to prevent unlawful or unreasonable deductions by the taxpayers who claim deductions for the expenses without actually paying for those expenses. Second, to mandate certain taxpayers to discharge their statutory liabilities for which those taxpayers are liable. For example, employers are statutorily liable for making contributions to the social security schemes of their employees. The expenses for which deductions are allowed only on actual payment under Section 43B of the Act, 1961 are listed as follows. 

1. Expenses relating to tax: Any sum or amount paid, by a taxpayer by way of tax, cess, duty, or fee, or by whatever name called, to the government, under any law for the time being in force is covered under Section 43B of the Act, 1961. Under Section 43B, the taxpayer can claim deductions for these taxes, cess, duties, etc., while computing income for any previous year only when these taxes, cess, duties, etc., are paid in that previous year. 
2. Expenses relating to employer’s contribution: Any sum or amount paid by a taxpayer as an employer by way of contributions to a provident fund gratuity fund superannuation fund, or any other fund that has been established for the welfare of employees is covered under Section 43B of the Act, 1961. The employers can claim these contributions as deductions while computing their income for a previous year only when such contributions are paid in that previous year. 
3. Expenses relating to payment of bonus or commission: Any sum or amount referred to in clause (ii) of sub-section (1) of Section 36 is covered under Section 43B of the Act, 1961. Section 36(1)(ii) deals with any sum paid to an employee as a bonus or commission for services rendered. The person who is paying such a bonus or commission can claim deductions for the same while computing his income for a previous year only when such bonus, or commission is paid to the employee by the employer.
4. Expenses relating to payment of interest to a financial institution: Any sum or amount payable by the taxpayer as interest for any loan from any public financial institution, or a state industrial investment corporation, a state financial corporation is covered under Section 43B. The person who is paying such interest can claim deductions for the interest paid while computing his income for a previous year only when such interest is paid in that previous year.
5. Expenses relating to payment of interest to financial company: Any sum or amount payable by the taxpayer as interest for any loan from a deposit-taking non-banking financial company (NBFC) or systemically important non-deposit-taking non-banking financial company is covered under Section 43B of the Act, 1961. The person who is paying such interest can claim deductions for the same while computing his income for any previous year only when such interest is paid in that previous year. 
6. Expenses relating to payment of interest to banks: Any sum or amount payable by the taxpayer as interest for any loan from a scheduled bank or a cooperative bank (other than a primary agricultural credit society or a primary cooperative agricultural and rural development bank) is covered under Section 43B. The person who is paying such interest can claim deductions for the same while computing his income for any previous year only when such interest is paid in that previous year. 
7. Expenses relating to the payment of wages for authorised leave: Any sum or amount payable by a taxpayer as an employer instead of any authorised leave to his employee is covered under Section 43B of the Act, 1961. The employer can claim this amount as a deduction while computing his income for a previous year only when such contributions are paid in that previous year. 
8. Expenses relating to the payment to Indian Railways: Any sum or amount payable by a taxpayer, for the use of railway assets, to the Indian Railways department is covered under Section 43B of the Act, 1961. The taxpayer who is paying the amount to Indian Railways for the use of railway assets can claim deductions for the same while computing his income for any previous year only when such amount is paid to the railways in that previous year.
9. Expenses relating to the payment to micro and small enterprises: Any sum or amount payable to any micro and small enterprises by a taxpayer who has a business relationship with these enterprises is covered under Section 43B. The taxpayer who needs to pay to micro and small enterprises during business can claim deductions for the same while computing his income for any previous year only when such amount is paid to the small or micro-enterprises in that previous year.

Conditions for claiming deductions under Section 43B

Section 43B of the Act, 1961 is just like any other provision in the Act that allows deductions for certain expenses incurred by the taxpayers. However, Section 43B imposes a mandatory condition to claim deductions under Section 43B. The condition is that, if a taxpayer wants to claim deductions for the expenses listed under the provisions of Section 43B, the deductions can be allowed only when the expenses are actually paid. If the taxpayer records in his books that he has incurred certain expenses, but has not actually paid them, he cannot claim the deductions for those unpaid expenses. 

Certain deductions are to be made only on actual payment under Section 43B 

Section 43B states that “certain deductions are to be made only on actual payment.” The Section states that a deduction that is otherwise allowable under the Act, 1961 in respect of certain expenses, that are listed in Section 43B, shall be allowed only in computing the income of a previous year in which such sum is actually paid. This concept enshrined under Section 43B of the Act, 1961 can be best understood with the help of the following examples. 

Illustration: Consider a business owner who pays property tax to the government in addition to income tax. He is entitled to deduct the property tax amount that he has paid to the government from his income while computing his income for the purpose of income tax. However, though he is entitled to deduct the property tax from his income, he is required to satisfy the condition of Section 43B of the Act, 1961 before claiming the deduction for the property tax that he paid. The main condition under Section 43B of the Act, 1961 is that the business owner should have actually paid the GST amount to the government before claiming a deduction for the same. 

For example, if a person has paid a property tax amount of Rs. 250,000 for the year 2016-2017, and if he follows the accrual or mercantile method, he can compute the property tax as a deduction for the year 2016-2017 before he has actually paid the property tax to the government. However, under Section 43B of the Act, 1961, the business owner can claim that property tax as a deduction for the year 2016-2017 only when he has paid that property tax in the year 2016-2017. It is also important to note that deductions are often claimed when income is calculated for any previous taxable year to calculate the overall tax liability of a taxpayer.

Illustration: Consider another example wherein an employer has to pay contributions for provident funds for his employees. The employer is entitled to deduct the contributions he paid for the provident funds of his employees from his income to reduce his income tax liability. He can claim that deduction even before contributing for provident funds through mercantile accounting by stating that he has incurred those expenses and thus he is entitled to that deduction. 

If the employer wants to deduct the contribution for provident funds of his employees for the year 2016-2017 by stating that he has incurred those expenses, he cannot just deduct those contributions from his income, under Section 43B, he is entitled to deduct those contributions for provident funds only if he paid those contributions in the year 2016-2017. Merely reflecting the expenses of contributing for provident funds in the book of accounts of the employer does not entitle him to claim deductions for the same just because he is using an accrual or mercantile method of accounting. He is entitled to claim such deductions only when he actually pays that contribution. 

Situations when Section 43B of the Income Tax Act can be used

Section 43B of the Act, 1961 cannot be attracted in all the situations where deductions are allowed with respect to the expenses listed under Section 43B. Section 43B will be attracted only when the tax or duty or any other statutory liability has been claimed as a deduction but the said tax or duty or any other statutory liability has not been actually paid. 

In the case of A.W. Figgis & Co. Ltd vs. Commissioner of Income Tax (2002), the assessee did not claim any amount spent for the payment of sales tax as a deduction, however, the assessing officer disallowed any such tax or duty under Section 43B. The Calcutta High Court held that when the assessee has not claimed any amount of sales tax as a deduction, the issue of disallowing any such tax or duty under Section 43B is erroneous. Thus, Section 43B will be attracted only when any amount is claimed as a deduction but the amount is not actually paid.

Similarly, in the case of Commissioner of Income Tax vs. India Carbon Ltd (2003), the Gauhati High Court stated that the provision of Section 43B will not be attracted when the assessee has not claimed any amounts, collected by it as the State Sales Tax and the Central Sales Tax, as deductions.

In the cases of Commissioner of Income Tax vs. Dinesh Mills Ltd (2008), the Gujarat High Court explained the situations where Section 43B will be attracted to disallow deductions for certain expenses. The High Court in these cases held that Section 43B would be applicable only in cases where any duty, tax, cess, etc., are collected by an assessee, but not paid to the government entitled to receive such tax, cess, or duty, and yet claimed a deduction from the taxable income. 

Moreover, it is important to note that Section 43B will be applicable from the date it became effective. For example, in the case of Commissioner of Income Tax vs. Office of the Official Liquidator (2009), the Gujarat High Court held that Section 43B is not applicable for the assessment year 1983-1984 because the said Section has been applicable from the effective date of 01-04-1984. In this case, a tax tribunal disallowed deductions of municipal tax and cess as deductions under Section 43B for the years 1983-84, the Gujarat High Court held that the tribunal was wrong in disallowing municipal tax and cess under Section 43B of the Act, 1961.

Similarly, in the case of Srikakollu Subba Rao & Co. and Ors vs. Union of India and Ors (1988), the Andhra Pradesh High Court stated that the originally enacted Section 43B was effective from 01-04-1984 and thus the provision is operative for and from the assessment year 1984-1985. Therefore, it cannot be contented that Section 43B is applicable to expenditures or before 01-04-1984.

Scope and effect of Section 43B of the Income Tax Act

The scope of Section 43B of the Act, 1961 is quite limited. The section deals with certain deductions of certain expenses to be allowed only on actual payment of such expenses. Departmental Circular No 372, dated 8-12-1983 elaborated the scope and effect of Section 43B of the Act, 1961. The circular stated that Section 43B had been enacted by the legislature for disallowance of unpaid statutory liability. If a person has a liability under a statute, and when he satisfies that liability, he can claim deductions for the same while filing his tax returns. 

However, when a person does not pay the statutory liability but claims deductions by only reflecting that expense in his books through his method of accounting, Section 43B would come into play. For example, if a person A is liable to pay Goods and Service Tax (GST) in addition to paying income tax, he can claim deductions when he has paid the GST to the government. However, if he just reflects that he has incurred the expense of paying GST in his books but has not made the actual payment, then he cannot claim a deduction for the same by virtue of Section 43B.

In simpler terms, under the mercantile accounting system or accrual accounting system, income and expenditure are calculated and added based on accrual and not based on actual payments or receipts. This impact of the mercantile accounting system on deductions can be best understood with the help of an example. 

Illustration: Consider an example of a utility company, the cost of electricity that the utility company has used to power its operations will be included in its books or in any of its accounts, which it uses as proof while filing tax returns, but the electricity cost hasn’t yet been paid for. The utility company should prepare a journal book to record the cost of the electricity as an expense incurred in this case. The company would claim deductions for that accrued expense without making any actual payment for the same, and similarly, through the accrual method or accounting, many taxpayers claim deductions for the expenses for which they have not paid any actual payments. 

Therefore, the scope and effect of Section 43B extend to allowing deductions concerning certain expenses only when such expenses are paid. If any expenses listed under Section 43B are not paid but have been accounted for in the taxpayer’s books of account, then such expenses cannot be claimed for deductions. 

Objectives of Section 43B of the Income Tax Act   

Section 43B of the Act, 1961 was enacted primarily for two objectives. 

• To allow deductions for certain expenses only when they are paid and not when they are accounted for in the taxpayer’s book of accounts which is used for filing tax returns.
• To compel the taxpayers to pay or discharge their statutory liability to claim deductions for the same. 

During the 1970s and 1980s, several instances came to notice of the Revenue Department wherein taxpayers did not pay or discharge their statutory liability, such as employer’s contribution to provident fund, excise duty, Employees’ State Insurance Scheme, etc., for a very long period of time, which extended to even years. However, for the purpose of filing their tax returns, the taxpayers claim the aforesaid statutory liabilities as deductions even before they are actually paid, and this was possible because many businesses followed mercantile or accrual methods of accounting. Moreover, many taxpayers dispute these liabilities and do not discharge the same, and even undisputed liabilities were also not discharged for some reason or the other. 

The Revenue Department in the Finance Act, 1983 enacted the revolutionary provision Section 43B in the Act, 1961 to curb this unlawful practice by Indian taxpayer budgets. Section 43B provided that the deductions, for any amount payable by the taxpayer by way of any tax, duty, or cess under any statute or any sum payable by the taxpayer as an employer by way of contribution to any social security scheme like the provident fund, superannuation fund, or gratuity fund, shall be allowed in computing the income of a respective year only when such expenses for which the deduction is claimed is paid in that respective year. 

Reasons for enacting Section 43B of the Income Tax Act

The journey of Section 43B of the Act, 1961 started with the Finance Minister’s Budget Speech for the year 1983-1984. The Finance Minister first introduced Section 43B of the Act, 1961 while explaining the provisions of the Finance Bill, 1983. He stated that the objective of enacting Section 43B is to curb the activities of certain taxpayers who did not fulfil their statutory liability of paying tax, excise duty, employer’s contribution to PF of an employee, etc., for long periods that extended up to years but claimed deductions from their income in that regard on the ground that they have incurred the statutory liability. 

In the case of Allied Motors (P.) Ltd vs. Commissioner of Income Tax, Delhi (1997), the Supreme Court of India stated that the objective of enacting Section 43B of the Act, 1961 is to prevent taxpayers from claiming deductions for statutory liabilities even without discharging those liabilities. Thus, even though a taxpayer has incurred an expense specified under Section 43B, the objective of Section 43B states that he should not be allowed deductions for those expenses unless he has actually paid for those expenses. 

In the case of Shree Pipes vs. Deputy Commissioner of Income Tax (2007), the court held that Section 43B was enacted with the object of seeing that liability towards tax or any other statutory liability is paid or discharged before the taxpayer’s claim to its deduction is allowed. The Rajasthan High Court further stated that Section 43B is a charging provision and it has to be strictly construed, and the restriction on claim to deduction described under Section 43 is for calculating the total taxable income of a taxpayer and is part of the machinery legal provision for effective implementation of the taxing legislation. 

In the case of Bharat Earth Movers vs. Commissioner of Income Tax (2000), the Supreme Court of India stated that the original addition of Section 43B in the Act, 1961 was to curb unreasonable and unlawful claiming of deductions based on the mercantile system of accounting, wherein deduction is claimed for a statutory liability even before the statutory liability is actually paid.  

Certain amendments and their respective inclusions in Section 43B were held ultra vires and unconstitutional, and the same were removed thereafter. For example, clause (f) of Section 43B was challenged as it did not fall under the purview of Section 43B. In the case of Exide Industries Ltd and Anr vs. Union of India and Ors (2007) and The South Indian Bank Ltd. vs. Commissioner of Income Tax (2014), the High Courts stated that leave encashment, mentioned in clause (f) of Section 43B, was neither a statutory liability nor a contingent one to be included in Section 43B. Therefore, the High Courts stated that Section 43B(f) has to be struck down as unconscionable, arbitrary, and de hors the Supreme Court’s decision in the case of Bharat Earth Movers vs Commissioner of Income Tax (2000).

There are other instances wherein the Indian Courts have added and excluded certain objectives under the purview of Section 43B of the Act, 1961 based on the changing facts and circumstances of the financial situations of the country. Some examples where the courts have included and excluded certain deductions from the purview of Section 43B are discussed briefly below in this article. 

In the case of Commissioner of Income Tax vs. Popular Vehicles & Services Ltd.(2010), the Kerala High Court stated that the gratuity fund is maintained for the welfare, and benefit of the employees, and the payment of the premium by the employer was to the fund operated by the Life Insurance Corporation (LIC) which is used for the payment of gratuity to the employees. Thus, the High Court of Kerala stated that the premium paid for the gratuity fund maintained by the LIC by the employer is under the purview of Section 43B of the Act, 1961. Thus, the employer cannot claim deductions for the payment of premiums for the gratuity fund maintained by LIC for his or her employees without making an actual payment towards the fund. 

In the case of Commissioner of Income Tax vs. MotiLal Padampat Udyog Ltd (2015), the retrospective effect of the amendment that included cess or fee under the purview of Section 43B was pleaded. Section 43B of the Act, 1961 was amended by the Finance Act, 1988, and in the amendment, the words “cess or fee by whatever name called” were included in Section 43B. The petitioner in this case pleaded before the court that the amendment of Section 43B by the Finance Act should have a retrospective effect. The Allahabad High Court stated that the amendment was made with effect from 01-04-1989 and this explicit effect date cannot be negated and the amendment cannot be given any retrospective effect. 

In the case of M/s. Shasun Chemicals and Drugs Ltd. vs. Commissioner of Income Tax-II, Chennai (2011), the Madras High Court stated that Section 43B requires the assessee as an employer to pay the sum payable by him by way of contribution to any PF or gratuity fund or superannuation fund or any other fund that has been established for the purpose of welfare of its employees and the same is covered under the purview of Section 43B of the Act, 1961.  

There are certain cases where the courts have explicitly stated that certain deductions or expenses will not come under the purview of Section 43B of the Act, 1961. For example, in the case of Kerala State Electricity Board vs. Dy Commissioner of Income Tax (2010), the Kerala High Court stated that Section 43B of the Act, 1961 shall not be included in the case of Electricity Board in respect of electricity duty collected by the board according to the duty under Section 5 of the Kerala Electricity Duty Act, (1963). If certain legislations are strong enough to force a person to fulfil the obligations imposed by it, Section 43B has no scope in it. In this case, Section 5 of the Kerala Electricity Duty Act, 1963, sets up certain procedures which force a person to fulfil the liability imposed in that legislation and he cannot claim deductions without payment of that electricity duty.

Similarly in the case of Commissioner of Income Tax-8 vs. Ovira Logistics Pvt Ltd. (2015), the Bombay High Court stated that Section 43B of the Act, 1961 does not contemplate liability to pay service tax before the actual receipt of the funds in the book of accounts of the assessee. 

Important amendments to Section 43B of the Income Tax Act

Section 43B was inserted in the Act, 1961 in the year 1983 by the Finance Act, 1983 and it underwent various amendments thereafter by the Parliament according to the financial circumstances of the country. Some of the important amendments of Section 43B of the Act, 1961 are discussed below under this portion of the article.

Bonus and commission payments were not under the purview of Section 43B before 1-4-1989. However, in the Direct Tax Laws (Amendment) Act, 1987, Section 43B was amended with effect from 1-4-1989 so as to include bonus and commission payments under Section 43B. Section 36(1)(ii) of the Act, 1961 deals with the payment of bonuses or commissions to employees, and the same was included in the purview of Section 43B. Thus, the payments of bonuses or commissions to the employees are allowed as deductions while computing the income for a respective year only when such bonuses or commissions are paid by the employer to the employee in that respective year. 

Another important amendment concerning Section 43B was done in the year 1990 and this amendment widened the scope and effect of Section 43B. The amendment was done by issuing the Departmental Circular no. 572 dated 3-8-1990 and the amendment came into force on the same date. 

By the amendment, the scope of Section 43B was extended to include the payment of interest to any state financial corporation or state industrial investment corporation. Under this amendment, any sum payable as interest on any borrowing or a loan from any state industrial investment corporation or any state financial corporation shall be allowed as a deduction for any respective year only when such interest is paid to those corporations in that respective year. The interest paid to any state industrial investment corporation or any state financial corporation shall not be allowed as a deduction if such interest is not actually paid before the due date of filing the income tax return. 

Interpretation of Section 43B of the Income Tax Act 

Interpretation of statutes is one of the most important subjects that is intrinsically connected to taxation laws. Taxation laws should be interpreted in a completely different manner from other kinds of laws like civil law or penal law. On a perusal of the wording of Section 43B, it is clear that the Section starts with a non obstante clause, a kind of clause used in legislation. The word “notwithstanding” is also a non obstante clause. A non obstante clause basically means that it controls the functions of other provisions of legislation. Moreover, a non obstante clause will always have an overriding effect over other provisions.

Thus, keeping this in mind, if we examine the exact words of Section 43B, it is clear that the intention of the legislature behind enacting Section 43B is that the deduction concerning any tax or duty or any other liability under a statute would be allowed in computing the income for a respective year under Section 28 of the Act, 1961 only when payment of such tax or duty or any other liability under a statute is paid. 

The intention of the legislature behind Section 43B provides that irrespective of the previous year(s) in which the liability to pay was incurred by the taxpayer, the deduction for such payment will be allowed only when actual payment is made. Thus, even in the mercantile basis of accounting, where the assessee has accrued certain liabilities like tax or duty, etc., which he is liable to pay, and for which the assessee has the right to obtain deduction, however, given Section 43B, the assessee would not be entitled to obtain deduction merely on accrual of the liability to pay, but the assessee would be entitled to obtain deduction only on actual payment of such tax or duty. 

Moreover, the explanation under Section 43B clearly states that the assessee will not be eligible for deductions for certain expenses under Section 43B on actual payment of such expenses if he has already claimed deductions for those expenses through the accrual method of accounting. Thus, Section 43B of the Act, 1961 is clear that the taxpayer should not be entitled to get the benefit of deductions twice for the same expense, i.e., at the time when the actual payment is made, and also at the time when the liability arises or is incurred. 

In the case of Lakhanpal National Ltd. vs. Income Tax Officer (1986), the Gujarat High Court held that the mere perusal of the language of Section 43B, states that the deduction of the amount as mentioned in clauses (a) and (b) of the Section would be allowed in the previous year if such amounts are paid in that previous year. Moreover, the court stated that “there is no scope for any doubt or error of thought that such sum can be allowed as deduction while computing the income in the previous year in which the assessee actually pays such sum.” Moreover, in the case of Commissioner of Income Tax vs. Cadila Chemicals Private Limited (1998), the Gujarat High Court stated that there is no merit in reconsidering the reasoning provided in the case of Lakhanpal National Ltd. vs Income Tax Officer (1986).

Nature of Section 43B of the Income Tax Act

Some scholars and commentators state that the provisions under Section 43B are penal in nature and thus they require to be interpreted in a literal sense instead of giving the provision a liberal interpretation. Moreover, Section 43B should be interpreted because its operative field is only the specified four sectors, namely, tax, cess, duty, or fees. In the case of Tamil Nadu Minerals Limited vs. The Joint Commissioner of Income Tax (2019), the court stated that since Section 43B is penal in nature, it should be interpreted strictly and not liberally by the courts. 

In the case of Commissioner of Income Tax vs. Bharat Petroleum Corporation Ltd. (2001), the Bombay High Court held that the customs and excise duty paid, and added to the closing stock of the relevant assessment year are allowed as deductions and the same can be deducted from the income. The court further stated that, in such a case, Section 43B will not be applicable for such deductions, because actual payments have already been made during the respective relevant assessment year. 

Therefore, the above judicial precedents make it clear that the assessee can claim deductions for any expenses only when such expenses are actually paid, and moreover, when such deductions are claimed even without any actual payment for the expenses, the assessee cannot claim deductions for the same expenses when they are actually paid. In simpler words, Section 43B prohibits any taxpayer from benefiting twice. 

Constitutionality of Section 43B of the Income Tax Act

Many writ petitions were filed before the High Courts and the Supreme Court, under Article 226 and Article 32 of the Indian Constitution, respectively, to challenge the constitutional validity of Section 43B of the Act. However, the provisions of this Section are not considered unconstitutional. In the case of Mysore Kirloskar Ltd vs. Union of India (1986), the High Court of Karnataka stated that the provisions of Section 43B are constitutional.

In the case of Srikakollu Subba Rao & Co and Ors. vs. Union of India and Ors (1988), the constitutionality of Section 43B was challenged before the Supreme Court of India through a special leave petition. The Supreme Court by dismissing the special leave petition stated that the provisions of Section 43B of the Act, 1961 are not ultra vires to the Indian Constitution. Similarly, in the case of Mohan Aluminium Pvt. Ltd vs. Income Tax Officer (1988), the Supreme Court dismissed writ petitions filed under Article 32 of the Indian Constitution challenging the vires of Section 43B of the Act, 1961. 

In the case of Hitech (India) Pvt. Ltd. Tico Machines Pvt. Ltd vs. Union Of India & Ors. Tico Machines (P) (1996), certain provisos and explanations of Section 43B of the Act, 1961 were challenged before the High Court of Andhra Pradesh. The Andhra Pradesh High Court stated that the explanation provision to Section 36(1)(va) and the two provisos to Section 43B of the Act, 1961, even though they provide for disallowance of the employer’s contribution to the employees’ state insurance fund, contribution to provident fund, and the payment of employees’ contribution to the gratuity fund and any other contributions for the welfare of the employees after the due dates in the relevant Acts are not violative of Article 14 – Right to Equality of the Indian Constitution. 

In Escorts Ltd vs. Union of India and Ors (1991), the retrospectively inserted Explanation 2 of Section 43B by the Finance Act, 1989 was challenged before the Supreme Court of India. The Supreme Court stated that the retrospectively inserted Explanation clause is not ultra vires to the Indian Constitution as the same removes a loophole and is neither arbitrary or discriminatory, and is also not violative of any fundamental rights under the Indian Constitution.  

Section 43B is supplementary to Section 145

Section 43B is an important provision in the Act, 1961 which regulates the unlawful claiming of deductions by many taxpayers. However, Section 43B itself is not an exclusive provision providing for the deduction of any item of expenses that is otherwise not allowable under any other provisions of the Act. The bare perusal of Section 43B shows that the provision deals with the deductions that are otherwise allowable under the other provisions of the Act. Section 43B only lays down certain conditions and requirements for eligibility for deduction of certain expenses which are anyway allowed by other provisions of the Act, 1961.

Section 145 of the Act, 1961 states that profits or gains of any business or an income from any profession can be computed in either cash accounting method or mercantile (accrual) accounting method. Section 43B is an exception to Section 145 because, Section 145 allows deductions to expenses of an assessee irrespective of the method of accounting, but Section 43B makes a deduction inadmissible unless the expense for which the deduction is claimed is actually paid. 

Thus, in the case of Commissioner of Income Tax vs M/s Kerala Solvent Extractions Ltd. (2008), the Kerala High Court stated that Section 43B is only supplementary to Section 145 of the Act, 1961. The High Court of Kerala also added that Section 43B is only an additional condition for the allowance of deductions that are otherwise allowable under the other provisions of the Act, 1961. 

No double deduction is possible under Section 43B of the Income Tax Act

Another important feature of Section 43B of the Act, 1961 is that it prohibits double allowance of deduction to a taxpayer for the same expense incurred by the taxpayer. Explanations 1, 3, and 3A of Section 43B prohibits the double deduction of a particular amount for any respective assessment year. These explanation clauses are clarificatory in nature. The provision of Section 43B declare that where deductions that are already allowed in computing the business income of any previous assessment year under Section 43B, the assessee shall not be entitled to any deduction again under Section 43B on the grounds that the expenses, for which deductions are claimed, are actually paid in any other assessment year. Expenses where double deductions are not allowed under Section 43B are listed as follows.  

1. Any sum referred under clause (a) of Section 43B as tax, duty, cess, or fee or clause (b) of Section 43B as a contribution to any provident fund, etc., that has already been allowed as deductions for any previous assessment year; or
2. Any sum referred under clause (c) of Section 43B as commission or bonus to an employee for the services rendered or under clause (d) of Section 43B as interest on any loan or borrowing from any state financial corporation, or state industrial investment corporation or any Private Finance Initiative, etc., that has already been allowed as deductions for any previous assessment year; or
3. Any sum referred under clause (e) of Section 43B as interest on any loan or borrowing from any scheduled bank or a co-operative bank other than a primary co-operative agricultural and rural development bank or a primary agricultural credit society etc, that has already been allowed as deductions for any previous assessment year.

Summary of Section 43B of the Income Tax Act

The below table summarises the provisions of Section 43B of the Act, 1961 to properly understand the concept prescribed in the provisions of Section 43B.

Sl. No	Content	Summary
1.	Provision	Section 43B of the Act, 1961. “Certain deductions to be on actual payment
2.	Objective	Section 43B was enacted with an objective to prevent unlawful and unreasonable deductions. Taxpayers by using mercantile accounting method claimed deductions on certain expenses even though the expenses were not actually paid. To curb this practice, the legislature inserted Section 43B into the Act, 1961.
3.	Payments Covered	Only payments for expenses that are prescribed under Section 43B are allowed for claiming deductions on actual payment of such expenses.
4.	Payments that are eligible	The payment for the expenses prescribed under Section 43B can be claimed as deductions only when such payments are actually paid.
5.	Exemptions	Any payments that are made through a cash accounting method normally does not come under the purview of Section 43B of the Act, 1961. Moreover, any other expenses that are not explicitly prescribed under Section 43B will also be exempted.
6.	Impact on accounting	Section 43B of the Act, 1961 will compel the taxpayers to properly use the cash accounting method and will allow deductions only on actual payment and not accrual of expenses as used in the mercantile method of accounting.
7.	Relevancy of assessment years	If certain deductions for the expenses listed under Section 43B are claimed for a particular assessment year, then such deductions will be allowed under Section 43B only when such expenses are paid in that assessment year.

Conclusion

Under the Act, 1961, the government has set up various safeguards and scrutinization in order to prevent tax evasion and illegal claiming of deductions. From the information gathered in this article, it is clear that Section 43B of the Act, 1961 is one such safeguard established by the government to prevent unlawful claiming of deductions. The revenue of the government is completely based on its ability to impose and collect taxes, if the government is unable to properly manage the process of imposing and collecting taxes, the economy of the country would collapse. It is important for the government to impose correct tax liability to applicable taxpayers and to allow deductions to certain taxpayers who deserve those deductions. 

Section 43B of the Act, 1961 empowers the government to allow deductions on expenses only when such expenses are paid. The government, with the help of Section 43B of the Act, 1961 prevents unlawful and unreasonable claims of deductions and double deductions. In this article, we discussed the constitutionality of Section 43B and the interpretation of the provisions of Section 43B by the courts. This article primarily focused on the need and objective of Section 43B and it also discussed the practical aspects of Section 43B.

Frequently Asked Questions (FAQs)

Are fees included under the purview of Section 43B of the Income Tax Act?

Fee is not similar to tax as the imposition of tax and fee has different objectives. Tax is levied upon almost every other person, however, in the case of fee, it is levied only to a specific group of people for a specific purpose. Courts, in many cases, have held that fee is not similar to tax and thus, it would not come under the purview of Section 43B. For example, in the case of Commissioner of Income Tax vs. Udaipur Distillery Co. Ltd (2004), the Rajasthan High Court held that since the fee is distinct from tax, the same is not subject to the application of Section 43B of the Act, 1961. 

Courts in several cases have held that fees do not come under the purview of Section 43B of the Act, 1961. For example, various High Courts in the cases of Commissioner of Income Tax vs. G. Soman (2010) and Commissioner of Income Tax vs. Sh. Jagdish Prasad Gupta (2019), held that fees do not attract the provisions of Section 43B and thus they can be claimed as deductions even before they have been actually paid.

How does Section 43B affect the payment of contributions by the employer to the social security schemes of the employees?

If an employer pays any contribution to any fund like the provident fund, ESI fund, maternity fund, or any other fund established for the social welfare of the employees, it is considered as an expense for the employer which he could deduct from total taxable income thereby reducing his taxable income. Section 43B contemplates that any payment with regard to expenses defined under Section 43B will be allowed as deductions only when such expenses are actually paid. 

Therefore, an employer must first pay his contributions to the applicable social security funds on behalf of his employees in order to claim those contributions as deductions. If an employer does not pay any contribution to any of the social security funds under Section 43B(b) but claims deductions for the same, he cannot do so by virtue of Section 43B.

What is the significance of clause (h) of Section 43B of the Income Tax Act?

Clause (h) of Section 43B was recently enacted to protect the rights of micro or small enterprises. Many taxpayers, by using the accrual method of accounting, claimed deductions for the sum payable to micro or small enterprises without making payment to them. Basically, taxpayers do not pay the amount liable to be paid to micro and small enterprises, but they claimed deductions for the same because they showed these payable amounts as expenses through the accrual method of accounting which made them eligible to claim deductions for the expenses payable to micro and small enterprises even before they make the actual payments. 

Therefore, in order to protect the rights of micro and small enterprises, Section 43B(h) was enacted. Under Section 43B(h) the taxpayers will be eligible to claim deductions on the amount payable to micro and small enterprises only when they actually pay the payment to those enterprises. 

Are there any recent amendments in the Budget 2024 with respect to Section 43B?

Yes. The Finance Act, 2023 (Act 8 of 2023) made the most recent amendment on Section 43B, and the amendment inserted a new clause (h) which allowed deductions for expenses paid to micro and small enterprises only when such expenses are actually paid to the micro and small enterprises. This amendment was aimed to protect the micro and small enterprises who didn’t receive their payments.

References

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