Section 43B(h): MSME Payment Rule, 45-Day Deadline, and Tax Disallowance
Key Takeaways
- Section 43B(h) of the Income Tax Act, 1961 (Section 37 under the Income Tax Act, 2025) disallows deductions for amounts payable to micro and small enterprises if the payment is not made within 15 days (no written agreement) or 45 days (with a written agreement) from the date of acceptance.
- The provision applies only to payments to micro and small enterprises registered under the MSMED Act, 2006. Medium enterprises and traders are excluded.
- Delayed payments are deductible only in the financial year in which they are actually paid, not the year in which the liability was incurred.
- Under Section 16 of the MSMED Act, delayed payments attract compound interest at three times the RBI bank rate (currently 5.50%, making the effective rate 16.50% per annum, compounded monthly).
- Tax auditors must report MSME payment details under Clause 22 of Form 3CD, including amounts paid on time, amounts paid late, and amounts still outstanding as of the balance sheet date.
Section 43B(h), introduced by the Finance Act, 2023 and effective from April 1, 2024, changed the tax treatment of payments owed to micro and small enterprises. Before this amendment, a buyer on the accrual method could claim the expense as a deduction in the year the liability arose, regardless of whether they had actually paid the supplier. Section 43B(h) removed that option. If you do not pay your micro or small enterprise supplier within the MSMED Act deadline, the deduction shifts to the year in which you actually make the payment.
This guide covers who is affected, how the deadlines work, what happens when payments are late, and how to report everything correctly in your tax audit.
Looking for expert help with Section 43B(h) MSME payment compliance and tax disallowance rules for Indian businesses? The team at Tax Garden helps Indian SMEs stay compliant end-to-end: filings, notices, and advisory, all in one place.
What Does Section 43B(h) Say?
Section 43B(h) adds a new clause to the existing Section 43B framework, which already requires actual payment (not just accrual) for certain deductions like taxes, employer PF/ESI contributions, and bonuses. Clause (h) extends this principle to amounts payable to micro and small enterprises as defined under Section 2 of the MSMED Act, 2006.
The rule is straightforward: any sum payable by an assessee to a micro or small enterprise for goods supplied or services rendered is deductible only if the payment is made within the time limit specified in Section 15 of the MSMED Act. If payment is delayed beyond that limit, the deduction is allowed only in the financial year in which the amount is actually paid.
Under the Income Tax Act, 2025 (effective from FY 2026-27), the same provision is carried forward as Section 37.
Payment Deadlines Under the MSMED Act
Section 15 of the MSMED Act, 2006 prescribes two deadlines depending on whether a written agreement exists between the buyer and the supplier:
| Scenario | Payment Deadline |
|---|---|
| No written agreement between buyer and supplier | 15 days from the date of acceptance or deemed acceptance of goods/services |
| Written agreement exists between buyer and supplier | As per the agreement, but not exceeding 45 days from the date of acceptance or deemed acceptance |
The "date of acceptance" is the day on which the buyer accepts (or is deemed to have accepted) the goods or services. If the buyer does not communicate rejection within 15 days, the goods or services are deemed accepted.
Practical Example
Suppose your company receives raw materials from a micro enterprise supplier on June 10, 2026. You have a written purchase agreement that specifies payment within 30 days.
- Payment deadline: July 10, 2026 (30 days from acceptance)
- If you pay on July 8: the expense is deductible in FY 2026-27
- If you pay on August 25: the payment crosses the 30-day agreed period, so the expense is disallowed in FY 2026-27 and deductible only in FY 2027-28 (the year of actual payment)
If there were no written agreement, the deadline would be June 25 (15 days from acceptance).
Who Does Section 43B(h) Apply To?
Suppliers Covered
Section 43B(h) applies only to payments made to suppliers that qualify as micro enterprises or small enterprises under the MSMED Act, 2006. It does not cover medium enterprises.
The current classification thresholds (per the June 2020 notification) are:
| Category | Investment in Plant and Machinery/Equipment | Annual Turnover |
|---|---|---|
| Micro Enterprise | Up to Rs 1 crore | Up to Rs 5 crore |
| Small Enterprise | Up to Rs 10 crore | Up to Rs 50 crore |
| Medium Enterprise (not covered by 43B(h)) | Up to Rs 50 crore | Up to Rs 250 crore |
Traders Are Excluded
A critical distinction: the MSMED Act defines "enterprise" for the purpose of Sections 15 to 24 (which deal with delayed payments) as entities engaged in manufacturing or providing services. Wholesale and retail traders, even if they hold a valid Udyam Registration certificate, are not covered by Section 15. This means payments to MSME-registered traders do not attract Section 43B(h) disallowance.
If your supplier's Udyam certificate shows only trading activity, Section 43B(h) does not apply to payments made to that supplier.
Buyers Affected
The provision applies to all buyers (assessees) who claim deductions for amounts payable to micro or small enterprise suppliers. This includes:
- Companies (private and public)
- Partnership firms and LLPs
- Individuals and HUFs with business income
- Any entity claiming business expenditure under Sections 28 to 44
The rule applies regardless of your method of accounting. Whether you follow the cash system or the accrual system, the deduction for payments to micro and small enterprises is governed by Section 43B(h).
What Happens If Payment Is Delayed?
Tax Disallowance
If you fail to pay a micro or small enterprise supplier within the prescribed timeline (15 or 45 days), the amount is disallowed as a deduction in the financial year in which the liability arose. The deduction is available only in the year the payment is actually made.
For example: you incur an expense of Rs 10 lakh for services from a small enterprise in March 2026. You have a written agreement but pay only in July 2026 (more than 45 days after acceptance). The Rs 10 lakh is disallowed in FY 2025-26 and deductible in FY 2026-27 when the payment is actually made. This increases your taxable income in FY 2025-26 and results in higher tax outflow for that year.
Interest Under Section 16 of the MSMED Act
Separately from the tax disallowance, Section 16 of the MSMED Act requires the buyer to pay compound interest on the delayed amount. The interest rate is three times the RBI bank rate, compounded monthly.
As of April 2026, the RBI bank rate is 5.50%, making the effective interest rate 16.50% per annum with monthly compounding. This interest:
- Is calculated from the day following the due date until the date of actual payment
- Is compounded monthly (interest on interest each month)
- Overrides any lower interest rate agreed between buyer and seller
- Is not deductible as a business expense under Section 23 of the MSMED Act (Section 43B(h) does not extend the deduction shield to this interest)
MSME Samadhaan Portal
Suppliers who are not paid on time can file a complaint through the MSME Samadhaan portal (samadhaan.msme.gov.in). The complaint goes to the Micro and Small Enterprises Facilitation Council, which can order the buyer to pay the principal amount along with interest under Section 16.
How to Check If Your Supplier Is a Micro or Small Enterprise
- Ask for the Udyam Registration Number (URN). Every registered MSME has a URN starting with "UDYAM" followed by a state code and number.
- Verify on the Udyam portal. Visit udyamregistration.gov.in and enter the URN to confirm the enterprise category (micro, small, or medium) and the activity type (manufacturing, services, or trading).
- Check the Udyam certificate. The certificate mentions the enterprise category and the date of registration or reclassification.
- Build a vendor master. Maintain a list of all suppliers with their Udyam status, category, and activity type. Update it at the start of each financial year because suppliers can be reclassified based on turnover changes.
Tax Audit Reporting: Clause 22 of Form 3CD
If your business undergoes a tax audit under Section 44AB (turnover exceeding Rs 1 crore for non-cash businesses, or Rs 10 crore for businesses with digital receipts exceeding 95%), the auditor must report MSME payment details in Clause 22 of Form 3CD.
The CBDT amended Clause 22 to specifically require disclosure of:
| Reporting Item | Details Required |
|---|---|
| Principal amount due to MSEs | Total outstanding as of balance sheet date |
| Payments made within the time limit | Amounts paid within 15/45 days |
| Payments made beyond the time limit | Amounts paid late (with delay period) |
| Interest due under Section 16 of MSMED Act | Computed at 3x bank rate, compounded monthly |
| Interest paid during the year | Actual interest paid to MSE suppliers |
| Interest accrued but not paid | Interest liability outstanding |
| Amounts disallowed under Section 43B(h) | Total disallowance for the assessment year |
The auditor will need your payables ledger, Udyam verification records, purchase agreements, and bank payment proof to complete this reporting accurately.
Compliance Checklist for Businesses
Here is a practical checklist for staying compliant with Section 43B(h):
- Identify all micro and small enterprise suppliers. Collect Udyam Registration Numbers and verify their status on the Udyam portal. Exclude traders and medium enterprises.
- Record acceptance dates. For every purchase from an MSE supplier, record the date of acceptance of goods or services. This is the starting point for the 15-day or 45-day clock.
- Track payment deadlines. Set up reminders or use your accounting software to flag invoices that are approaching the 15-day or 45-day deadline.
- Maintain written agreements. If you want the 45-day window (instead of 15 days), ensure you have a written agreement with the supplier that specifies the payment term. Without a written agreement, the deadline is only 15 days.
- Pay before the deadline. Prioritise payments to MSE suppliers. The cost of delayed payment is twofold: tax disallowance in the current year plus compound interest at 16.50%.
- Review before year-end. In March (or the month before your financial year closes), review all outstanding MSE payables. If any are nearing the deadline, clear them before the year ends.
- Prepare for tax audit reporting. Keep your Udyam verification records, payment dates, and agreement copies organised for the auditor's Clause 22 reporting.
Who Should Be Most Concerned?
Section 43B(h) has the highest impact on:
- Manufacturing companies that source raw materials, components, or packaging from small workshops and job workers registered as micro or small enterprises.
- IT services companies that subcontract work to small firms or individual consultants with Udyam registration.
- Construction and infrastructure firms with long payment cycles to small subcontractors.
- Any business with a pattern of paying suppliers after 45 days. If your standard payment cycle is 60 or 90 days and some of those suppliers are MSEs, Section 43B(h) will create disallowances in your return.
If your typical payment terms to suppliers are within 30 days and you generally pay on time, the compliance burden is minimal. The rule primarily targets businesses with extended payment cycles that squeeze smaller suppliers.
Section 37 of the Income Tax Act, 2025
The Income Tax Act, 2025 (effective from FY 2026-27) consolidates the old Section 43B provisions, including clause (h), into Section 37. The substance of the rule is unchanged: deductions for expenses payable to micro and small enterprises are allowed only upon actual payment within the MSMED Act timelines. The new section number and restructured language do not alter the compliance requirements.
For AY 2026-27 (FY 2025-26, returns being filed now), Section 43B(h) of the Income Tax Act, 1961 applies. For AY 2027-28 onwards (FY 2026-27), Section 37 of the Income Tax Act, 2025 takes over.
Tax Garden's tax compliance services include MSME payment tracking, Clause 22 reporting support, and year-end payables review for businesses with micro and small enterprise vendors. We flag invoices nearing the payment deadline and compute Section 16 interest exposure before your audit. See our tax audit guide for the broader audit process and our Udyam Registration guide for the supplier side of MSME compliance.
Looking for expert help with Section 43B(h) MSME payment disallowance and compliance for Indian businesses? The team at Tax Garden helps Indian SMEs stay compliant end-to-end: filings, notices, and advisory, all in one place.
Frequently Asked Questions
Does Section 43B(h) apply to payments made to medium enterprises?
No. Section 43B(h) covers only payments to micro and small enterprises as defined under the MSMED Act, 2006. Medium enterprises (investment up to Rs 50 crore, turnover up to Rs 250 crore) are excluded from the scope of this provision.
Does Section 43B(h) apply to payments made to MSME-registered traders?
No. The MSMED Act defines 'enterprise' for the purpose of Sections 15 to 24 (delayed payments) as entities engaged in manufacturing or providing services. Wholesale and retail traders, even with valid Udyam Registration, are excluded from Section 15 and therefore from Section 43B(h).
What is the payment deadline if there is no written agreement with the MSE supplier?
If there is no written agreement, the buyer must pay within 15 days from the date of acceptance or deemed acceptance of goods or services. If the buyer does not reject the goods within 15 days, acceptance is deemed to have occurred.
What is the interest rate on delayed payments to MSEs?
Under Section 16 of the MSMED Act, the interest rate is three times the RBI bank rate, compounded monthly. As of April 2026, the bank rate is 5.50%, making the effective rate 16.50% per annum with monthly compounding. This rate overrides any contractual agreement between the buyer and the supplier.
Is the interest paid on delayed MSME payments deductible as a business expense?
No. Section 23 of the MSMED Act specifically provides that interest payable under Section 16 is not allowed as a deduction under the Income Tax Act. This makes delayed payments doubly costly: you lose the expense deduction in the current year and the interest itself is also not deductible.
What is the new section number for 43B(h) under the Income Tax Act, 2025?
Section 43B of the old Income Tax Act, 1961 corresponds to Section 37 of the Income Tax Act, 2025. The substance and compliance requirements remain the same. For ITR filing for AY 2026-27 (FY 2025-26), the old section number 43B(h) applies. For FY 2026-27 onwards, Section 37 of the 2025 Act applies.
How does the tax auditor report Section 43B(h) disallowances?
The auditor reports MSME payment details in Clause 22 of Form 3CD. This includes principal amounts outstanding, amounts paid within the deadline, amounts paid late, interest due and paid under Section 16 of the MSMED Act, and total disallowances under Section 43B(h). Businesses must maintain Udyam verification records and payment tracking for each MSE supplier.
Sources
This guide is verified against Section 43B(h) of the Income Tax Act, 1961 (inserted by the Finance Act, 2023), Sections 15, 16, and 23 of the MSMED Act, 2006, the CBDT notification on Clause 22 of Form 3CD for AY 2025-26, and the RBI monetary policy statement of April 2026 (bank rate: 5.50%). Cross-checked against ClearTax, IndiaFilings, Taxmann, TaxGuru, BajajFinserv, and Business Standard coverage as of April 2026. The Income Tax Act, 2025 section mapping (43B to Section 37) is verified against the ClearTax old-vs-new section mapping table and TaxGuru analysis. Always confirm supplier Udyam status on udyamregistration.gov.in and current RBI bank rate on rbi.org.in before computing interest or filing.
