Section 44AD of the Income Tax Act: Presumptive Taxation Scheme for Small Businesses

Section 44AD is a special provision under the Indian Income Tax Act that offers a simplified taxation scheme for small businesses and professionals. This section allows eligible taxpayers to compute their income on a presumptive basis, reducing the compliance burden of maintaining detailed books of accounts and undergoing audits. It is a popular option for small businesses due to its simplicity.

1. Objective of Section 44AD

The presumptive taxation scheme under Section 44AD is designed to:

• Simplify tax compliance for small businesses.
• Provide relief from the rigor of maintaining detailed books of accounts and audit requirements.
• Encourage voluntary compliance by offering a straightforward way to compute income.

The scheme allows eligible taxpayers to calculate their income based on a fixed percentage of their gross turnover or receipts, instead of actual income earned.

2. Eligibility for Section 44AD

To avail of the benefits under Section 44AD, the following conditions must be met:

(a) Eligible Businesses:

Section 44AD is applicable to any resident individual, Hindu Undivided Family (HUF), or partnership firm (excluding Limited Liability Partnerships) engaged in:

• Any business, except the business of plying, hiring, or leasing of goods carriages (this is covered under Section 44AE).
• Other than professions specified under Section 44AA (such as legal, medical, engineering, accountancy, technical consultancy, etc.).

(b) Gross Turnover or Receipts:

• The gross receipts or turnover of the business should not exceed ₹2 crore in the financial year. If the turnover exceeds this limit, the taxpayer cannot opt for the presumptive scheme under Section 44AD and must maintain regular books of accounts.

(c) Exclusions:

The scheme does not apply to:

• Non-resident individuals or entities.
• Limited Liability Partnerships (LLPs).
• Individuals or firms engaged in the profession referred to under Section 44AA(1).
• Businesses earning income through commission or brokerage.
• Agency businesses.

3. Income Computation Under Section 44AD

Under the presumptive taxation scheme, the income is deemed to be 8% of the total turnover or gross receipts of the business. However, there is an exception for payments received through digital transactions or other non-cash modes, where the income is presumed to be 6% of the gross receipts or turnover.

This method of income calculation helps in simplifying the tax filing process, especially for businesses with limited resources or knowledge in maintaining formal books of accounts.

Key Points for Income Computation:

• 8% of Gross Turnover: If the business’s receipts are in cash, at least 8% of the turnover is presumed as income.
• 6% of Gross Turnover: If the business’s receipts are through digital payments or any other non-cash means, at least 6% of the turnover is presumed as income.
• The taxpayer does not need to maintain detailed books of accounts if they opt for this scheme.
• The income computed under this section is deemed to be the final taxable income, and no further deductions are allowed under Sections 30 to 38 (such as rent, depreciation, repairs, etc.).

Example:

• If a business has a turnover of ₹1 crore, and all transactions are digital, the taxable income under Section 44AD will be 6% of ₹1 crore = ₹6 lakh.
• If the turnover is ₹1 crore and all transactions are in cash, the taxable income will be 8% of ₹1 crore = ₹8 lakh.

4. Filing Requirements

Taxpayers opting for the presumptive taxation scheme under Section 44AD must fulfill the following requirements:

(a) No Requirement to Maintain Books of Accounts:

Taxpayers are not required to maintain detailed books of accounts as specified under Section 44AA if they declare income under Section 44AD.

(b) Exemption from Audit:

Taxpayers are also exempt from audit under Section 44AB if they declare income under the presumptive taxation scheme. This is one of the major advantages of Section 44AD for small businesses, as it significantly reduces compliance costs.

(c) Filing of ITR-4:

Taxpayers opting for Section 44AD need to file ITR-4 (Sugam), which is a simplified income tax return form designed for individuals, HUFs, and firms availing presumptive taxation schemes. This form requires basic information about turnover, presumptive income, and taxes paid.

(d) Payment of Advance Tax:

Taxpayers opting for the presumptive taxation scheme are required to pay advance tax by 15th March of the financial year. Unlike other taxpayers who are required to pay advance tax in installments (June, September, December, and March), those using Section 44AD only need to make one lump sum payment by the March deadline.

5. Opting In and Out of Section 44AD

• Continuity Requirement: Once a taxpayer opts for the presumptive taxation scheme under Section 44AD, they must continue to declare income under the scheme for the next five consecutive years. If the taxpayer decides to opt out of the scheme before completing the five-year period, they will be disqualified from using Section 44AD for the subsequent five years.

Example:

• If a taxpayer opts for Section 44AD in FY 2023-24, they must continue to use the scheme until FY 2027-28. If they opt out in FY 2025-26, they cannot use Section 44AD again until FY 2030-31.

6. Applicability of Deductions and Exemptions

Under Section 44AD, taxpayers cannot claim any further deductions or exemptions under Sections 30 to 38, which include:

• Depreciation on assets.
• Repairs and maintenance costs.
• Rent expenses.
• Deductions for expenses like salaries, office rent, utilities, etc.

However, taxpayers can still claim deductions under Chapter VI-A, such as Section 80C (investments in PPF, LIC, etc.), Section 80D (medical insurance premiums), and so on.

7. Drawbacks of Section 44AD

While Section 44AD simplifies the tax filing process, it may not be suitable for all taxpayers, especially those with low margins or high expenses. Some of the drawbacks include:

• Fixed Income Percentage: The scheme assumes a fixed percentage (6% or 8%) of the gross turnover as income, regardless of actual profits. This can be disadvantageous for businesses with low margins or high operating costs.
• Ineligibility for Large Businesses: Businesses with turnover exceeding ₹2 crore cannot avail of this scheme and must resort to regular tax filing, which involves maintaining detailed accounts and getting audits done.

8. Penalty for Non-Compliance

If a taxpayer opts for Section 44AD but declares income less than the presumptive rates (i.e., less than 6% or 8% of the turnover), they must maintain detailed books of accounts and get them audited under Section 44AB. Failure to do so can attract penalties under the Income Tax Act.

Conclusion

Section 44AD provides a convenient and straightforward way for small businesses to compute their taxable income on a presumptive basis. It simplifies compliance by exempting eligible taxpayers from maintaining detailed accounts and getting audits done. However, businesses need to carefully evaluate their income levels and expenses before opting for the scheme, as the fixed presumptive income rates may not suit all types of businesses.

For small businesses with turnover up to ₹2 crore, the presumptive taxation scheme can be a valuable tool for reducing the administrative burden and ensuring hassle-free compliance.