Section 44AD: Presumptive Taxation Scheme
Updated: Jul 5
Section 44AD of the Income Tax Act provides a simplified solution through the Presumptive Taxation Scheme. The idea is to relieve assessees from maintenance and compliance with detailed book-keeping accounts, which at times may become difficult, and make the tax filing process easy and accessible.
This article will examine the fine points associated with Section 44AD: who is eligible, how it benefits the taxpayer, and practical issues in opting for it.
Table of Content
Understanding Section 44AD: Presumptive Taxation Scheme
What is Section 44AD?
Section 44AD of the Income Tax Act is a provision that makes it easier for small businesses and freelancers to declare their income and calculate the tax payable without any requirement for maintaining books of accounts in detail. It is part of the presumptive taxation scheme.
Definition of Presumptive Taxation under Section 44AD
Under Section 44AD, presumptive taxation allows eligible taxpayers to declare income at a prescribed percentage of their total turnover or gross receipts. Detailed bookkeeping is not required under this. It assumes a standard percentage of the income as the net income of the taxpayer. For example, businesses can declare 8% of turnover as income if the transactions are in cash or 6% if through banking channels, irrespective of actual profits.
Objectives of a Presumptive Taxation System
Section 44AD belongs to the presumptive taxation system, which comes up with the following objectives:
Simplification: This scheme aims to simplify the procedure of filing of taxes for small taxpayers by reducing the compliance burden related to maintaining detailed books of accounts and undergoing audit processes.
Increased Compliance: By making the procedure easy and less taxing, it encourages more small business owners and freelancers to come under the umbrella of taxation law, thereby increasing the tax base.
Reduce Burdens on Tax Administration: With lesser demands for thorough scrutiny of accounts, tax administration would be free to allocate its resources on larger tax evasions.
Cost-Effective: It is cost-effective for the small taxpayers to save on expenses for hiring accountants to render detailed book-keeping and auditing services.
Who is Eligible to Opt for Presumptive Taxation Scheme under Section 44AD?
Section 44AD of the Income-tax Act, 1961, has been introduced to make the procedure of income tax simpler for smaller businesses. The principal conditions to be fulfilled for eligibilities are as follows:
Type of Tax Payer: Individual taxpayers, Hindu Undivided Families, and Partnership Firms (Excluding Limited Liability Partnerships) are eligible under the scheme provided the principal business of such taxpayer is business.
Turnover threshold: Turnover or gross receipts from the business during the financial year do not exceed INR 2 crores. This high threshold is so that a good percentage of small and medium enterprises are covered under the scheme.
Business Sector: Any business is almost eligible for the presumptive taxation scheme under Sec 44AD, except those specifically excluded by the section. The same includes manufacturing businesses, traders, retailers, and small service providers who cannot be classified under professional services.
Revised Presumptive Taxation Limit for Section 44AD as per Budget 2023
The Budget 2023 has set new revised presumptive taxation limits for FY 2023-24 (AY 2024-25) under Section 44AD and Section 44ADA. These are as follows:
Who Cannot Opt for Presumptive Taxation Scheme under Section 44AD?
Certain types of incomes and professions are specifically excluded from taking the benefit of Section 44AD. Following are such types of businesses:
Income in the form of Commission or Brokerage: Any business whose income is received in commission or brokerage shall not be eligible for this scheme. This exclusion was made to eliminate those businesses whose income are not related to the sales volume, such as insurance agents or brokers.
Professional Services: Under the presumptive taxation scheme, any professional listed under Section 44AA(1) is excluded, be it accountants, lawyers, medical professionals, engineers, architects, interior decorators, technical consultants, or any other notified profession by the CBDT. In these professions, incomes are not entirely dependent on the ratio of sales or turnover; they depend on the services rendered, which may not get adequately represented by a flat percentage of turnover.
Agency Businesses: Agency businesses are also outside the ambit of Section 44AD. Agency businesses more often than not earn money by acting like agents for the delivery of certain services or products which may be associated with complicated revenue models, not suitable for a flat rate assumption of income.
Benefits of Section 44AD
Under Section 44AD of the Income Tax Act, presumptive taxation scheme offers many benefits to small businesses and freelancers. The approach of this scheme is to ease the tax regime, reduce compliance burden, and eventually diminish the aggregate costs associated with filing taxes. Following are some of the prime benefits related with the presumptive taxation scheme:
Simplification in the tax filing procedure
No detailed accounts books to be maintained: Under Section 44AD, there is no requirement to maintain detailed books of accounts or any other record as required under the Act. This will particularly help small businesses that are unable to cope with complicated accounting.
Ease of Filing: Due to the fact that the income is calculated as a standard percentage of turnover at the rate of 6% on digital receipts and 8% on cash receipts, the entire process of tax filing becomes very simple. As a result, there is no hassle for itemized profit and loss statements.
Lower Compliance Burden
Lowered Accounting Costs: There is no detailed accounting to be done, so significant reduction in costs associated with hiring accountants or buying accounting software. For some businesses, that may be an enormous saving, especially those running at thin margins.
Less Time-Consuming: The reduced need to track and document finances gives way to time savings on compliance and record-keeping, enabling business proprietors to focus more on operational aspects and growth of the business.
Tax Benefits and Deductions
Assured Percentage of Income: The business gets the benefit of presumption that its expense is taken care of by the 92% or 94% of its turnover, as the case may be, based on the mode of receipt of its income. This presumed expense coverage may actually be higher than the actual expenses, thereby reducing the taxable income.
Exemption from Advance Tax Penalties: As the income under Section 44AD is presumptive in nature, the penalty under Sections 221 and 222 of the Act, most of the time, is not applicable with respect to non-payment of shortfall in payment of advance tax under Section 208 if the conditions of the scheme are otherwise satisfied.
Continuity Benefit: If a taxpayer avails the option of using Section 44AD and continuously declares their income by using this scheme for 5 consecutive years, then in such a case, the Income Tax Department will not scrutinize that block period for the business income declared by them under this section.
Income Calculation Under Section 44AD
Example 1: Digital Transactions
Ms. A runs a graphic design business with an annual turnover of INR 50 lakhs. All her transactions are received via bank transfers.
Income Calculation: 6% of INR 50,00,000 = INR 3,00,000.
Tax Computation: Assume that Ms. A comes under the 20% tax bracket. Her tax liability would, therefore, be 20% of INR 3,00,000, which is INR 60,000. Exclude the cess and surcharge for the purpose of this illustration.
Example 2: Cash Transactions
Mr. B owns a small retail shop; his annual turnover is INR 40 lakhs, all received in cash.
Income calculation: 8% of INR 40,00,000 = INR 3,20,000.
Tax Computation: In case he is also in the 20% tax bracket, his tax liability will be 20% on INR 3,20,000 = INR 64,000.
Limitations and Drawbacks of Section 44AD
Though Section 44AD of the Income Tax Act provides several benefits to small businesses in the form of easy tax compliance and lesser administrative expense, there are numerous limitations, which any business has to necessarily consider before opting for this scheme. Knowing these limitations shall help businesses adopt more informed decisions relating to their tax filing strategy.
Expense Claims restrictions: Under Section 44AD, income is considered to be 8% of the total turnover or 6% if the receipts are through digital means. This is irrespective of the actual expenses or losses incurred during the year. Hence, in case of businesses having higher operational costs, these businesses cannot claim deduction for the expense over and above this prescribed percentage, which may result in higher taxable income than what may have been the case under regular provisions.
Business Type and Profession Limitations: Section 44AD does not extend to income from professions as listed under Section 44AA(1) like accounting, law, medicine, engineering, architectural, and so on, nor from commission or brokerage incomes. This limits the scope of businesses that can come under this presumptive scheme.
Turnover Limitation: Section 44AD is applicable subject to the turnover or gross receipt not exceeding INR 2 crores. This cap shall exclude many medium-sized businesses who even though their accounting could be easily simplified and brought under the ambit of presumptive taxation but have higher sales.
5 year Lock-in: Once an assessee has opted for this scheme, it shall become ineligible to opt out of the presumptive taxation benefit of Section 44AD for the next 5 financial years. Further, in such cases, if the income exceeds the maximum amount not chargeable to tax in any year during the aforesaid 5 financial years, the accounts shall be subject to audit.
How to Opt for Section 44AD?
Opting for Section 44AD can substantially ease compliance of the taxpayer. The step-by-step procedure for opting for the scheme for eligible small businesses is as follows:
Step 1: Eligibility Check
Before opting for this scheme, a business enterprise must check its eligibility for the same under Section 44AD:
Your business should not be carrying on a profession listed under Section 44AA(1), such as medical, legal, or accountancy services.
Annual gross receipts or turnover from your business should not exceed INR 2 crores.
Your business should not generate income in the form of commission or brokerage.
Step 2: Knowing the Implications
Be aware of the financial and administrative implications for opting for Section 44AD:
Know that you do not need to maintain detailed books of accounts.
Note that once you avail of Section 44AD, you have to continue in this scheme for a minimum period of 5 successive years to escape the provisions of compulsory audit.
Step 3: Prepare for Filing
Prepare your financials in accordance with the presumptive income scheme:
Calculate 8% of your total turnover or gross receipts as your presumptive income, or 6% if the turnover is received through banking channels.
Ensure that all receipts and invoices are in line with your declared turnover.
Step 4: Submitting your ITR
Submit your ITR in Form ITR 4 for those assessees who opt for presumptive income under Section 44AD, 44ADA or 44AE.
Declare your business income using prescribed percentages of your turnover under Step 5 in relevant sections in ITR-4.
Step 5: Presumptive Income Declaration
Under "Computation of presumptive income" in form ITR-4:
Quote total Turnover/Gross Receipts.
Calculate and declare your presumptive income by applying the 8% (or 6%) rate over your turnover.
Step 6: Filing and Verification of Tax Return
After preparing your tax return, submit an electronic copy of it through the official Income Tax e-filing website.
After submitting the return do make sure that you verify your return through options like Aadhaar OTP, EVC generated through your bank account or by send signed ITR V to CPC Bangalore
Step 7: Compliance and Record Keeping
Though detailed books of accounts are not required, only a simple record of sales and expenses may be maintained which shall help arrive at the turnover declared.
Keep a complete record of all invoices and receipts, which may be of great help in case of a future query from the Income Tax Department.
Step 8: Review Annually
Every year, review the eligibility and advantages of continuing under Section 44AD.
If the turnover is more than INR 2 crores, or the actual expenses that you want to claim are more than the presumed percentages, you may want to opt out after 5 consecutive years of compliance with the scheme.
Comparison with Other Sections (44ADA, 44AE)
It is important for every taxpayer, mainly small businesspersons and professionals, to be very clear about the differences between Section 44AD and other related sections like 44ADA and 44AE. Every section has different targeting taxpayers with different conditions and benefits. Here's the detailed comparison:
Section 44AD: For Small Businesses
Applicability: Under Section 44AD, this is applicable to individuals, HUFs, and partnership firms excluding LLPs engaged in any business except the business of plying, hiring, or leasing goods carriages and those specified under Section 44AE.
Turnover Limit: Gross turnover or receipts from business should not go beyond INR 2 crores in a financial year.
Income Calculation: Presumptive income shall be calculated at 8% of turnover or gross receipts in case of cash transaction and 6% in case of turnover received through banking channel.
Eligibility: The section does not apply to any professionals who come within the ambit of Section 44AA(1) or to those earning income by way of commission or brokerage.
Section 44ADA: Presumptive Income for Professionals
Applicability: It is applicable to specified professionals like medical, legal, engineering, architectural, accountancy, technical consultancy, interior decorating, and other notified professions by the Central Board of Direct Taxes.
Turnover Limit: Gross receipts of a professional are not to exceed more than INR 50 lakhs in any financial year.
Income Calculation: Presumptive income is computed at 50 percent of the total gross receipts for the year.
Eligibility: This provision will apply only to professions as per Section 44AA(1) and persons whose gross receipt is less than the threshold limits.
Section 44AE: In respect of Goods Carriages
Applicability: The provisions of this section are applicable in the case of an individual, HUF, and partnership firm excluding companies who own not more than 10 goods vehicles at any time during the previous year and are engaged in the business of plying, hiring, or leasing such vehicles.
Income Calculation: Presumptive income is taken as INR 7,500 per month or part of a month for each vehicle, regardless of actual earnings from the same. This amount may have been revised in recent years, so checking the latest updates is advisable.
Eligibility: Specifically for small fleet owners with not more than 10 goods vehicles.
FAQ
Q1. What is Section 44AD?
Section 44AD of the Income-tax Act allows eligible small businesses to calculate their taxable income at a presumptive rate of 8% or 6%, if the transaction is of a digital nature, of total turnover simplifying tax computation and filing.
Q2. Who can opt for Section 44AD?
Section 44AD shall apply to individual taxpayers and HUFs and partnership firms excluding LLPs, engaged in any business except those engaged in plying, hiring, or leasing goods carriages or earning income by way of commission or brokerage.
Q3. What could be the turnover limit for opting into Section 44AD?
Businesses whose total turnover or gross receipts do not exceed INR 2 Crores in the financial year can opt for Section 44AD.
Q4. What is the income declared under Section 44AD?
Under Section 44AD of the Act, presumptive income is declared at 8% of the total turnover or gross receipts. In case the transactions are undertaken electronically, it is 6%.
Q5. What are the records or books of accounts maintained under Section 44AD?
Under Section 44AD, the requirement for maintaining detailed books of accounts is not extended to the taxpayer, and thus it eases the problems of small business people who have limited accounting resources.
Q6. Can any business expenses be claimed as deductions under Section 44AD?
No, business expenses cannot be claimed as deductions in this option. The flat rate of 8% or 6% is considered including all expenses.
Q7. What if I opt out of Section 44AD after opting in?
If any taxpayer has opted out from the Scheme of Section 44AD after opting in, he shall not be eligible to opt in the scheme for next 5 financial years.
Q8. Whether audit is compulsory under Section 44AD?
Under Section 44AD, audit is not required, subject to the conditions that total income is less than the basic exemption limit of that particular assessment year. Otherwise, in the case when your income is more than the basic exemption limit and turnover is more than INR 2 crores an audit is a must.
Q9. Can a professional service provider use Section 44AD?
No, persons carrying on profession specified in Section 44AA(1) of the Income Tax Act, like accountants, lawyers, doctors, and so on, cannot opt for Section 44AD. They can, however, consider Section 44ADA which is for professionals.
Q10. What are the advantages of opting for Section 44AD?
The benefits include: less record-keeping, no detailed bookkeeping, no expense tracking, and easier calculations of tax, which reduce overall tax liability.
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