Over the years, the government has incorporated various schemes to aid small businesses in reducing their tax liabilities. Among them, the scheme of Presumptive Taxation, framed under Section 44AE and Section 44AD of the Income Tax Act, 1961 is one of the most beneficial for small tax assessees.

What is Included Under Section 44AD?

Usually, as is the norm, businesses need to maintain official books of account alongside detailed profit and loss statements, based on which their tax liabilities are calculated. These documents are evaluated at the end of each financial year, with businesses having to pay the corresponding taxes that are computed.

Now, to provide relief to eligible assesses through a reduction in their tax compliance burden, the government has introduced the Presumptive Taxation Scheme with several provisions under the Income Tax Act’s Section 44AD.

Small businesses and other eligible entities do not need to maintain their accounts regularly under the provisions put forth through this Section of the Income Tax Act. They are instead taxed at a rate prescribed under the scheme of Presumptive Taxation. Further, such eligible businesses are also offered exemption from yearly audit of their book of accounts.

Eligibility to Avail Benefits Under Section 44AD

Businesses and other entities looking to benefit from the Act’s Section 44AD of Income Tax Act will need to comply with a few stipulated eligibility criteria.

Persons included under the purview of the following category can opt for the benefits under this Section –

  • Individuals who are Indian residents.
  • Members of the Hindu Undivided Family who are Indian residents.
  • Partnership firms that are deemed residents. However, Limited Liability Partnership Firms are excluded in this regard.

While this list includes those who can avail the benefits of Section 44AD of Income Tax, those belonging to the categories below are not eligible to opt for this scheme –

  • Any individual engaged in running an agency business.
  • Persons who have claimed tax exemptions under Sections 10AA, 10A, 10BA or 10B along with Sections 80RRB or 80HH during a given assessment year.
  • Persons whose income is generated from brokerage fees or commissions.
  • Businesses included under Section 44AE, engaged in tasks like leasing, plying, and hiring of goods carriages.

Those who comply with the above-mentioned criteria can enjoy relief from regular tax compliance on the income generated and are instead taxed at the rate prescribed under the provisions of Section 44AD.

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Income Computation and Taxation Rates Under Section 44AD

The income generated by eligible assessees opting for the provisions of this Section is calculated on the basis of estimation. This is given by 8% of the total annual turnover or gross receipts of businesses calculated in the previous year.

In this regard, one should remember that the person’s income will be calculated as per this provision only if the annual turnover for the previous year is below Rs.2 crore. If it exceeds this amount, the income will be computed as per regular Income Tax provisions.

This can be understood better with the aid of an example.

Mr A owns a supermarket which accounted for a turnover of Rs.10 lakh in the previous year. He opts for the benefits of the Presumptive Taxation Scheme under Section 44AD. Under the provisions put forth by this scheme, Mr A’s total income will be calculated on an estimation basis, and will amount to –

8% of Rs.10 lakh

= Rs.8 lakh

Thus, Mr A will be taxed on the estimated income of Rs.8 lakh.

Important Points to Remember for Section 44AD

Those opting to avail the benefits of the provisions under Sec 44AD of Income Tax Act need to be aware of a few details pertaining to the applicability of this particular section. These are as follows –

  • For assessees with multiple businesses, the total turnover from all such businesses is taken into account for calculating the estimated income.
  • Those declaring their income under this Section are eligible to avail tax benefits under Chapter VI-A of the Income Tax Act, 1961.
  • Assessees carrying out both profession and business can also enjoy benefits under Section 44AD of ITA on the income generated from their business. In this regard, income earned from their profession will be calculated as per standard provisions of the ITA.
  • Those applying for benefits under this Section will need to file their income tax returns through ITR Form 4 – Sugam.

Apart from these, there have been a few important amendments made to this Section over the years that one should take note of. These are –

a) Amendments introduced through the Finance Act 2016

These amendments came into force from the financial year 2016-2017 –

  1. One cannot claim remunerations, interests and salary paid to his/her partners as deductions.
  2. Businesses opting to receive benefits under Section 44AD will need to follow provisions put forth under Advance Tax. However, in such cases, the business will need to pay 100% of their Advance Tax within March 15th of the financial year. All other compliances under Advance Tax are retracted.

b) Amendments introduced through the Finance Act 2017

The amendments put forth under this Act were –

  1. Businesses that receive payments digitally could claim 6% of the total payments received in such a manner as their estimated income in the following year.

This amendment was made to encourage businesses to opt for digital payments after the government introduced demonetisation in 2016.

Can Businesses Opt-In or Out of Section 44AD?

Businesses can enjoy the benefit of opting in and out of the Presumptive Taxation Scheme if they comply with the eligibility to do so.

However, in this regard, one should remember that any business that opts out of Section 44AD cannot choose to avail the benefits of this scheme in the next 5 years.

Following is a tabular illustration of this provision –

Years Presumptive Tax Applicability under Section 44AD 
AY2019-20, 2020-21, 2021-22 A business opts for benefits under this scheme.
AY2022-23 Said business opts out of Section 44AD.
AY2023-24 through AY2027-28 Business cannot apply for benefits under the Section.

When a business opts out of this Section, it automatically has to get its accounts audited thereafter under Section 44AB.

The primary aim of this Section has been to encourage small businesses to pay their tax dues in time. With the provisions of this Section in place, small tax assessees can bear their tax burden without the hassle and maximise profits from their businesses effectively.