Assessment when section 325 not complied with.

326

Irrespective of anything contained in any other provision of this Act, where a firm does not comply with the provisions of section 325 for any tax year,—

• (a) no deduction by way of any payment of interest, salary, bonus, commission or remuneration, by whatever name called, made by such firm to any partner of such firm shall be allowed in computing its income chargeable under the head “Profits and gains of business or profession”; and
• (b) such interest, salary, bonus, commission or remuneration shall not be chargeable to income-tax under section 26(2)(g) in the hands of partners of such firm.

Explanation

Section Summary:

Section 326 of the Income Tax Act addresses the consequences for a firm that fails to comply with the provisions of Section 325 for any tax year. Section 325 likely pertains to specific compliance requirements for firms, such as filing returns, maintaining books of accounts, or other statutory obligations. If a firm does not meet these requirements, Section 326 imposes restrictions on the tax treatment of payments made to partners.

Key Changes:

This section introduces a penalty-like mechanism for non-compliance with Section 325. Specifically:

1. Disallowance of Deductions: Payments made to partners (such as interest, salary, bonus, commission, or remuneration) will not be allowed as deductions when computing the firm's taxable income under the head "Profits and gains of business or profession."
2. Exclusion from Partner's Taxable Income: These payments will also not be taxable in the hands of the partners under Section 26(2)(g).

Practical Implications:

• For Firms: Non-compliance with Section 325 will increase the firm's taxable income, as payments to partners cannot be deducted. This could result in higher tax liability for the firm.
• For Partners: Payments received from the firm (e.g., salary, interest) will not be taxable in their hands, which might seem beneficial. However, this is offset by the firm's inability to deduct these payments, leading to a higher tax burden on the firm.
• Compliance Pressure: Firms must ensure strict adherence to Section 325 to avoid these adverse tax consequences.

Critical Concepts:

• Section 325: Likely refers to specific compliance obligations for firms, such as filing returns or maintaining records. Non-compliance triggers the penalties under Section 326.
• Section 26(2)(g): This provision typically deals with the taxation of income received by partners from the firm. Under Section 326, such income is excluded from taxation if the firm fails to comply with Section 325.

Compliance Steps:

1. Adhere to Section 325: Ensure all compliance requirements under Section 325 are met, such as timely filing of returns and maintaining proper books of accounts.
2. Document Payments to Partners: Maintain detailed records of all payments made to partners, including interest, salary, bonus, commission, or remuneration.
3. Review Tax Calculations: Adjust the firm's taxable income calculations to exclude non-deductible payments if Section 325 is not complied with.

Example:

• Scenario: A partnership firm fails to file its tax return (a requirement under Section 325) for the financial year 2023-24. During the year, the firm paid ₹5 lakh as salary to its partners and ₹2 lakh as interest on capital.
• Impact:
  • The firm cannot deduct the ₹7 lakh (₹5 lakh + ₹2 lakh) from its taxable income, increasing its tax liability.
  • The partners do not need to include the ₹7 lakh in their taxable income under Section 26(2)(g).
• Result: The firm bears a higher tax burden due to non-compliance, while the partners are not taxed on these payments.

This section emphasizes the importance of compliance with Section 325 to avoid adverse tax consequences for both the firm and its partners.