[Opinion] Section 194T | Ushering a New Era of Tax Compliance for Partnership Firms

Dr Shruti Kakkar & CA Vibhu Batra – [2025] 173 taxmann.com 253 (Article)

Introduction

The Finance Act 2024 marked a significant shift in the taxation landscape for partnership firms and LLPs in India by introducing Section 194T of the Income Tax Act 1961. Coming into effect from April 1, 2025, this section brings partner payments such as salary, commission, bonus, and interest under the Tax Deducted at Source (TDS) regime for the very first time. To appreciate the magnitude of this change, it is essential to trace the historical treatment of partners’ remuneration, from the pre-1992 era of double taxation to the post-1993 reforms that offered exemptions and deductions.

This article delves deep into the evolution of tax policies affecting partners’ income, the rationale behind the newly inserted Section 194T, its operational framework, and the practical implications for firms, partners, and entrepreneurs alike. With compliance burdens increasing and cash flow dynamics changing, Section 194T may redefine how we view the LLP structure, especially in the context of new startups and small businesses.

From 1961 to 1992

Taxation Regime Before 1993 concerning Partners’ Remuneration (till F.Y. 1992-93):

• The Partnership Firm was Taxed: The partnership firm was treated as a separate assessable entity, and its entire income was subject to tax at the applicable rates.
• Partner’s Income (including salary) was Not Taxed Separately: Any salary, bonus, commission, or remuneration received by a partner from the firm was not considered the partner’s income and was not taxed again in their hands.
• No Deduction for Partner’s Salary in the Firm’s Hands: Crucially, the firm was not allowed to deduct the salary, bonus, commission, or remuneration paid to its partners as an expense when computing its taxable income. This meant the firm paid tax on its profits before accounting for partner payments.

This, in a way, led to Income being taxed twice; here’s why:

1. Tax at the Firm Level: Of course, the firm paid tax on its total income, which included the amounts effectively distributed to partners as salary to the partners
2. Economic Benefit to Partners: The partners received the financial benefit of these payments, but this receipt was not directly taxed in their hands. However, the profits remaining after these payments, after the firm paid its income tax, were then distributed to the partners as their share of the profit, which was also considered part of the overall income generated by their efforts. For current-day tax practitioners and students, basically, till 1992, there was no Section 10(2A) benefit available to firms, thereby meaning that a partner’s share in a firm’s income was taxed in the hands of the partner. Thus, the partners faced the brunt of this double taxation and then came the insertion of Section 28(v) and Section 10(2A) in the Finance Bill, 1992, presented by the then Hon’ble Finance Minister Dr Manmohan Singh on 29th February 1992.

Taxation regime post, 1993 in regards to Partners’ Remuneration (from 1993-94 onwards): Insertion of Section 28(v), 40(b) and Section 10(2A) in the dream budget of 1992: (If 1991 Budget got famous for opening up of Economy, 1992 Budget is remembered for the plethora of Tax reforms: two of which are the subject matter of discussion in our today’s piece):

Effective from Assessment Year 1993-94:

• Exemption of Share Income in Partner’s Hands (Section 10(2A)): The partner’s share of the firm’s profit became exempt from tax in their individual hands.
• Taxability of Partner’s Salary (Section 28(v)): Salary, remuneration, and interest received by a partner became taxable as “Profits and Gains of Business or Profession” in their own hands.
• Deductibility of Partner’s Salary for the Firm (Section 40(b)): The firm was allowed to deduct the salary and remuneration paid to working partners, subject to specific conditions and limits.

In essence, the pre-1992 regime taxed the firm on its entire income without allowing a deduction for partner’s salaries, and the partners were not taxed separately on these salaries. The 1992 amendment aimed to remove this double taxation by taxing the salary in the partner’s hands and allowing it as a deduction for the firm while exempting the share of profit in the partner’s hands.

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