Understanding Section 194C of the Income Tax Act

Section 194C of the Income Tax Act plays a crucial role in regulating Tax Deducted at Source (TDS) on payments made to contractors and subcontractors. A thorough understanding of this section is essential to ensure compliance and avoid potential issues for your business.

Introduced with effect from June 1, 1972, Section 194C was designed to broaden the tax base and ensure consistent revenue collection from contractual payments. It aimed to prevent tax evasion by deducting tax at the source of income for a wide range of services. 

Furthermore, the provision features dual monetary thresholds, ₹30,000 for a single payment and ₹1,00,000 in aggregate for a financial year, to ensure both large and cumulative smaller payments are brought under the TDS net.

What is Section 194C?

Section 194C mandates the deduction of tax at source when a “specified person” makes a payment to a resident contractor or subcontractor for carrying out any “work,” which includes the supply of labor. A key condition for this section to apply is the existence of a contract between the contractor and the contractee.

Who is a “Specified Person” (the Payer)?

The entities obligated to deduct TDS under Section 194C include:

• Central or State Government.
• Any local authority.
• Corporations established under Central, State, or Provisional Acts.
• Companies.
• Cooperative societies.
• Authorities in India for housing or city planning.
• Societies registered under the Societies Registration Act of 1980.
• Trusts.
• Universities or deemed universities.
• Firms.

Hindu Undivided Families (HUFs), Associations of Persons (AOPs), or Bodies of Individuals (BOIs) whose total sales, gross receipts, or turnover exceeded ₹1 crore for business or ₹50 lakh for profession in the preceding financial year. 

(Note: Individuals, HUFs, AOPs, or BOIs below these turnover limits are generally exempt from deducting TDS for contractor payments for personal use.)

What is Covered as ‘Work’ Under Section 194C?

The term ‘work’ for Section 194C is broadly defined and includes:

• Advertising.
• Broadcasting and telecasting (including program production).
• Carriage of goods and passengers by any mode of transport (excluding railways).
• Catering.
• Manufacturing or supplying a product according to a customer’s specification using materials purchased from that customer. However, it does not include manufacturing or supplying a product using materials purchased from sources other than the customer.

1. Contractor: Any person who enters into a contract with a central/state government, corporation, company, local authority, or cooperative society to perform any work, including the supply of manpower.

2. Subcontractor: A person who enters into a contractual agreement with a contractor to perform or provide labor for all or a portion of the work undertaken by the contractor, or to supply labor as specified in the contractor’s agreement with the authorities mentioned in this section.

Key Conditions for TDS Deduction under Section 194C

For TDS  to be applicable under this section, the following conditions must be met:

• The payment is made to a resident contractor or subcontractor (as defined under Section 6 of the Income Tax Act, 1961).
• The payment is made by a specified person.
• The payment is for carrying out any work, including the supply of labor.
• The single payment under a contract exceeds ₹30,000.
• The aggregate payments to a contractor in a financial year exceed ₹1,00,000.

TDS Rates and Time of Deduction

TDS (Tax Deducted at Source) is applicable on various payments made to residents, with rates varying based on PAN availability and recipient type.

TDS Rate Chart:

Sl. No.	Nature of Payment	TDS Rate (if PAN available)	TDS Rates (14.05.2020 to 31.03.2021)	TDS Rate (if PAN not available)
1	Payment/Credit to resident individual or HUF	1%	0.75%	20%
2	Payment/Credit to any resident person (other than individual/HUF)	2%	1.5%	20%
3	Payment/Credit to Transporters*	NIL	NIL	20%

Exception: TDS is not applicable if the payment is made to a goods transport agency that owns 10 or fewer carriages at any time during the previous year, and the contractor provides a declaration of this fact along with their PAN.

When to Deduct TDS?

The person responsible for deducting TDS must do so at the earliest of the following events:

• When the amount is credited to the payee’s account.
• When the payment is made (in cash, by cheque, or any other mode).

Even if the amount is credited to a “Suspense Account” or similar, TDS must still be deducted.

When is TDS Not Deductible under Section 194C?

Certain scenarios are exempt from TDS deduction under Section 194C:

1. Small Payments

• If a single payment under a contract is ₹30,000 or less.
• If the total payments to a contractor in a financial year are ₹1,00,000 or less.

2. Personal Use

Individuals or HUFs are not required to deduct TDS if the payment is for personal use.

3. Goods Transport Agencies

If the transporter owns 10 or fewer goods carriages and provides their PAN and a declaration.

Illustrative Examples of 194C Applicability

Let’s consider an example for clarity:

Example: A Ltd. makes the following payments to Mr. A, a contractor, during FY 2022-23:

Date of Payment	Amount	TDS Applicability
01-06-2022	₹25,000	No TDS (Neither single nor aggregate payment exceeds the threshold)
05-08-2022	₹30,000	No TDS (Neither single nor aggregate payment exceeds the threshold)
12-08-2022	₹25,000	No TDS (Neither single nor aggregate payment exceeds the threshold)
20-12-2022	₹28,000	TDS is required to be deducted. The aggregate payment becomes ₹1,08,000 (₹25k + ₹30k + ₹25k + ₹28k), exceeding ₹1 lakh.

TDS Calculation for the above example (on 20-12-2022):

• Total payment: ₹1,08,000.
• TDS @ 1% (for individual/HUF): ₹1,080.
• Net payment on 20-12-2022: ₹28,000 (current payment) – ₹1,080 (TDS on total) = ₹26,920.

Note: TDS should be deducted on the cumulative amount when the threshold is crossed, including payments that were previously below the threshold but now contribute to exceeding it.

TDS Deduction in Composite Contracts

When a contract involves both goods and services (composite supply), the TDS deduction depends on how material costs are presented:

1. Gross Payment Basis

If the contract is for a complete project (e.g., building construction) and the specified person supplies materials at stipulated prices, TDS is deducted on the gross payment without excluding material costs.

2. Labour-Only Contracts

If the contractor only provides labor and material ownership remains with the specified person, TDS applies only to the payment for labor or services, excluding material costs.

3. Invoice Clarity

• If the value of materials is separately mentioned on the invoice, TDS applies only to the net payment (excluding material costs).
• If the material value is not separately mentioned, TDS is deducted on the entire invoice amount.

Essential Documents for TDS Deduction under Section 194C

To ensure proper compliance with Section 194C requirements, maintain the following documentation:

1. Contractor’s PAN Card

This is absolutely essential. Without a valid PAN, the TDS rate increases significantly to 20% instead of the standard rates.

2. Contract or Work Agreement

While not legally mandatory, a written contract is highly recommended as it clearly defines work scope, payment terms, and responsibilities. Note that TDS applies to both written and verbal agreements.

3. Contractor’s Invoice

A detailed invoice from the contractor specifying the nature of work performed, amount due, and other relevant particulars is required for processing payment and TDS deduction.

4. TDS Challan

This government form is used to deposit the deducted TDS amount with the tax authorities by the due date (7th of the following month).

5. TDS Certificate (Form 16A)

This certificate must be issued to the contractor within the prescribed time limit, showing details of payments made and TDS deducted during the financial year.

How to Calculate TDS under Section 194C 

When calculating TDS under Section 194C, it’s crucial to focus on the service component of an invoice. You should exclude the value of materials or goods from the invoice amount if they are clearly separated. If the invoice doesn’t specify the value of goods separately, then TDS will be calculated on the entire invoice value.

1. Focus on Service Component

When calculating TDS, prioritize the service component of the invoice, excluding separately indicated material or goods costs.

2. Invoice Clarity for Composite Supply

If a composite supply includes goods and services, ensure the invoice clearly specifies the value of goods. Otherwise, TDS is deducted on the total invoice value.

3. Exclusions

Commission and brokerage on fixed deposits are not covered. Payments to airlines/travel agents for ticket purchases are generally excluded unless for chartered transport.

4. Inclusions

Payments to clearing and forwarding agents for goods carriage, and payments to electricians for services, are covered.

Special Considerations from CBDT on 194C Applicability

The Central Board of Direct Taxes (CBDT) has issued clarifications on various scenarios:

1. Payment to Travel Agents

Payments by passengers to travel agents or airlines for tickets are generally not liable for TDS. Payments by agents to airlines also typically don’t attract TDS. However, TDS is deducted for chartered hiring of buses, planes, or any mode of transport.

2. Payment for Couriers

Payments to couriers are liable for TDS as they involve the carriage of goods.

3. Payment for Serving Food in Restaurants

TDS is generally not deducted on payments for food served in a restaurant in the normal course of business.

4. TDS Deduction on GST Amount

If the GST  amount is indicated separately in an invoice, TDS should be levied on the value excluding such GST.

What is the Time Limit to Deposit TDS u/s 194C?

The deadline for depositing TDS under Section 194C depends on who is making the payment:

1. For Government Payments

TDS must be deposited on the same day the payment is made.

2. For Non-Government Payments

• If the TDS is deducted for payments made in March, the deposit deadline is April 30th.
• For payments made in any other month, the TDS must be deposited within 7 days from the end of that month.

What is the time limit to file TDS return u/s 194C?

After depositing the TDS with the government, you are required to file a quarterly TDS return using Form 26Q. The due dates for filing these returns are:

Quarter April to June: July 31st.

Quarter July to September: October 31st.

Quarter October to December: January 31st.

Quarter January to March: April 30th.

When is the TDS Statement Issued, and By Whom u/s 194C?

The TDS statement (Form 16A) is issued quarterly by the person who deducted the TDS to the deductee (the individual or entity from whose income the TDS was withheld).

The due dates for issuing these TDS certificates are:

Quarter April – June: August 15th.

Quarter July – September: November 15th.

Quarter October – December: February 15th.

Quarter January – March: June 15th.

Consequences of Non-Compliance

Failing to comply with Section 194C of the Income Tax Act can lead to serious repercussions, including interest charges, financial penalties, and even potential prosecution.

Specifically, if you neglect to deduct TDS or fail to deposit it within the prescribed timeframes, you could face:

Interest: An interest rate of 1% per month (or part of a month) on the overdue TDS amount.

Penalties: Fines ranging from ₹10,000 to ₹1 lakh.

A clear understanding of Section 194C is vital for any business dealing with contractors and subcontractors. Adhering to its provisions regarding TDS rates, deduction timelines, return filing, and certificate issuance is crucial for seamless financial operations and to avoid significant penalties and interest. 

Don’t let tax complexities hold your business back; ensure full compliance and optimize your financial processes by leveraging expert guidance.

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Frequently Asked Questions (FAQs) 

1. What is the primary purpose of Section 194C of the Income Tax Act?

Section 194C mandates the deduction of Tax Deducted at Source (TDS) on specific payments made to resident contractors and subcontractors for carrying out work, aiming to ensure tax compliance and broaden the tax base.

2. Who is considered a “specified person” under Section 194C?

A “specified person” includes various entities like government bodies, corporations, companies, cooperative societies, trusts, universities, firms, and individuals/HUFs/AOPs/BOIs whose turnover exceeds prescribed limits (₹1 crore for business, ₹50 lakh for profession).

3. What types of “work” are covered under Section 194C?

“Work” broadly includes advertising, broadcasting, telecasting, carriage of goods and passengers (excluding railways), catering, and manufacturing or supplying goods as per a customer’s specification using their material.

4. What are the monetary thresholds for TDS deduction under Section 194C?

TDS is required if a single payment to a contractor exceeds ₹30,000, or if the aggregate of payments to a contractor in a financial year exceeds ₹1,00,000.

5. What are the TDS rates under Section 194C?

Generally, the TDS rate is 1% for payments to individuals/HUFs and 2% for payments to other resident persons. If the PAN is not provided, the rate is 20%. Specific exemptions apply to certain transporters.

6. When is TDS deducted under Section 194C?

TDS must be deducted at the earlier of two events: when the amount is credited to the payee’s account, or when the actual payment is made (in cash, cheque, or any other mode).

7. Are there any common scenarios where TDS is not required under Section 194C?

Yes, if a single payment is ₹30,000 or less, if aggregate payments are ₹1,00,000 or less in a financial year, for payments made by individuals/HUFs for personal use, or for payments to eligible transporters with 10 or fewer carriages who provide their PAN.

8. How is TDS calculated in composite contracts involving both goods and services?

If the value of materials is separately indicated in the invoice, TDS is calculated only on the service component. If not, TDS is deducted on the entire invoice value.

9. What is the due date for depositing TDS deducted under Section 194C?

For government payments, it’s the same day. For non-government payments, it’s by the 7th of the following month (or April 30th for March deductions).

10. What are the consequences of not complying with Section 194C?

Non-compliance can lead to interest charges (1% per month for delay in deduction/deposit), penalties ranging from ₹10,000 to ₹1 lakh, and potentially prosecution.