CBDT FAQ Deep-Dive Series #7: Section 43B Actual-Payment Deductions and the 43B(h) MSME Disallowance Under the Income-tax Act 2025 – How Section 37 Maps the Transition Before the September 30, 2026 Tax Audit
Quick Summary: Key Takeaways
- Section 43B of the Income-tax Act 1961 is re-enacted as Section 37 of the Income-tax Act 2025 (“Certain deductions allowed on actual payment basis only”). The actual-payment principle survives the cutover unchanged.
- The MSME disallowance in Section 43B(h) of the 1961 Act becomes Section 37(2)(g) of the Income-tax Act 2025. The rule that delayed payments to micro and small enterprises are deductible only in the year of actual payment continues without dilution.
- Your FY 2025-26 tax audit and return are computed under the 1961 Act. For the year ended 31 March 2026, you apply Section 43B (and 43B(h)) of the 1961 Act, preserved by the Section 536 saving clause of the 2025 Act.
- From Tax Year 2026-27 onward, the same tests run under Section 37 of the 2025 Act. Taxes, duties, cess, employer fund contributions, bonus and commission, interest to lenders, leave encashment, and MSME dues all stay on the actual-payment basis.
- The 15 or 45-day MSME clock is the one item with no “pay by the return due date” relief. Miss the MSMED Act timeline and the deduction shifts to the year of payment, full stop. This is the single biggest Form 3CD exposure in the 30 September 2026 tax audit.
This is the seventh instalment in our CBDT FAQ Deep-Dive Series on the transition from the Income-tax Act 1961 to the Income-tax Act 2025, which came into force on 1 April 2026. Earlier chapters covered the master FAQ and Section 536 saving clause, loss carry-forward continuity, transfer pricing transition, and depreciation continuity. This chapter answers the question every tax-audit team is wrestling with as the September deadline approaches: what happens to Section 43B and the 43B(h) MSME disallowance under the new Act, and which Act governs my FY 2025-26 audit?
The Section 43B transition in one table
The principle is period-based. Identify the financial year your computation relates to, then apply the Act that governs that period.
| Period | Governing Act | Actual-payment provision | What you do |
|---|---|---|---|
| FY 2025-26 (year ended 31 March 2026) | Income-tax Act 1961 | Section 43B, including Section 43B(h) for MSME dues | Apply the actual-payment tests in your 2026 tax audit and return exactly as before. |
| Tax Year 2026-27 onward (from 1 April 2026) | Income-tax Act 2025 | Section 37, with the MSME disallowance in Section 37(2)(g) | Run the same actual-payment discipline under the renumbered section from this year. |
| Pending assessments / appeals for FY 2024-25 and earlier | Income-tax Act 1961 | Section 43B as it stood | Preserved by Section 536. Continue under the old provisions. |
Why your FY 2025-26 audit applies Section 43B of the 1961 Act
The Income-tax Act 2025 is in force from 1 April 2026, which corresponds to Tax Year 2026-27. The year ended 31 March 2026 is the last full year governed by the Income-tax Act 1961. Because your statutory tax audit under Section 44AB and your income-tax return for FY 2025-26 are filed in the second half of 2026 but relate to the pre-cutover year, they are computed under the 1961 Act. Section 536 of the Income-tax Act 2025 is the bridge: its general saving clause ensures that anything done, any right accrued, and any liability incurred under the 1961 Act survives the repeal, so your FY 2025-26 Section 43B testing is unaffected by the new Act.
How Section 43B of the 1961 Act maps to Section 37 of the Income-tax Act 2025
The 2025 Act renumbers the actual-payment rule but keeps its substance. Section 37 of the 2025 Act is headed “Certain deductions allowed on actual payment basis only,” and it carries forward each category that sat in Section 43B, including the MSME clause.
| Item allowed only on actual payment | Income-tax Act 1961 | Income-tax Act 2025 |
|---|---|---|
| Any tax, duty, cess, or fee under any law | Section 43B(a) | Section 37 |
| Employer contribution to provident, superannuation, gratuity, or other welfare fund | Section 43B(b) | Section 37 |
| Bonus or commission to employees | Section 43B(c) | Section 37 |
| Interest on loans / borrowings from banks, NBFCs, and notified institutions | Section 43B(d), (da), (e) | Section 37 |
| Leave encashment | Section 43B(f) | Section 37 |
| Sum payable to Indian Railways for use of assets | Section 43B(g) | Section 37 |
| Sum payable to a micro or small enterprise beyond the MSMED Act time limit | Section 43B(h) | Section 37(2)(g) |
| Continuity of the actual-payment rule across the repeal | n/a | Section 536 saving clause |
The headline is continuity. The general rule that these sums are deductible only in the year of actual payment, with relief if paid on or before the return-filing due date, carries straight across. The one carve-out that does not get the “pay by the return due date” relief is the MSME disallowance, and that carve-out survives the transition intact.
The 43B(h) MSME disallowance: the audit exposure that did not soften
Section 43B(h), inserted by the Finance Act 2023 and effective from 1 April 2024 (AY 2024-25 onward), provides that any sum payable by an assessee to a micro or small enterprise beyond the time limit specified in Section 15 of the MSMED Act, 2006 is allowed as a deduction only in the previous year in which the sum is actually paid. Two features make this the sharpest edge in a tax audit:
- No return-due-date relief. Unlike the rest of Section 43B, the MSME clause has no proviso allowing the deduction if you pay before filing your return. If you breach the MSMED timeline, the deduction moves to the year of actual payment, even if you settle the dues the very next day.
- The clock is statutory, not contractual beyond a cap. Where there is a written agreement, payment must be made by the agreed date, which cannot exceed 45 days. Where there is no agreement, the appointed day is the day immediately following 15 days from acceptance or deemed acceptance of the goods or services.
This treatment continues unchanged under Section 37(2)(g) of the Income-tax Act 2025 for Tax Year 2026-27 onward. The renumbering does not relax the test, the threshold, or the consequence.
Who is a “micro or small enterprise” for the disallowance
The disallowance bites only on dues to micro and small enterprises, not medium enterprises, and only where the supplier is registered under the MSMED Act (holding Udyam registration as a manufacturer or service provider within the micro or small thresholds). Traders are generally outside the levy of the interest provisions of the MSMED Act for this purpose. The practical first step in any audit is therefore to segregate your trade payables by the supplier’s Udyam status, because a payable to an unregistered vendor or to a medium enterprise does not attract the Section 43B(h) / Section 37(2)(g) disallowance.
Practitioner checklist before the 30 September 2026 tax audit
- Pull the Udyam-classified creditors ledger. Tag every trade payable as on 31 March 2026 by the supplier’s status: micro, small, medium, or unregistered. Only micro and small are in scope.
- Apply the 15 or 45-day test to each in-scope payable. Identify the acceptance date and the written-agreement date (capped at 45 days) or the 15-day default, and flag every invoice paid beyond the limit.
- Quantify the disallowance for FY 2025-26. Sum the in-scope payables that were unpaid as on 31 March 2026 or paid beyond the MSMED timeline; these are disallowed for FY 2025-26 and deductible only when paid.
- Reconcile to Clause 22 of Form 3CD. Report the Section 43B(h) amount correctly in the tax audit report, and ensure the disallowed figure ties to the computation of income.
- Test the rest of Section 43B for the return-due-date relief. For taxes, duties, employer fund contributions, bonus, interest, and leave encashment, confirm whether the amount was paid on or before the return-filing due date so the deduction is preserved for FY 2025-26.
- Cite the period-correct Act. For the FY 2025-26 audit, cite Section 43B of the 1961 Act. For any forward computation or advance-tax working from Tax Year 2026-27, cite Section 37 and Section 37(2)(g) of the 2025 Act.
- Brief clients on the cash-flow design point. The cleanest way to avoid the MSME disallowance is operational: pay micro and small vendors within the statutory window, not a planning entry at year-end.
Frequently Asked Questions
Which section replaces Section 43B under the Income-tax Act 2025?
Section 43B of the 1961 Act is re-enacted as Section 37 of the Income-tax Act 2025, headed “Certain deductions allowed on actual payment basis only.” The MSME disallowance that was Section 43B(h) becomes Section 37(2)(g).
Which Act do I use for the FY 2025-26 tax audit filed in 2026?
The Income-tax Act 1961. For the year ended 31 March 2026 you apply Section 43B and Section 43B(h) as before; the Section 536 saving clause of the 2025 Act preserves this. The 2025 Act applies from Tax Year 2026-27.
Did the MSME 45-day disallowance change under the new Act?
No. The rule that payments to micro and small enterprises beyond the Section 15 MSMED Act timeline are deductible only on actual payment continues unchanged, moving from Section 43B(h) of the 1961 Act to Section 37(2)(g) of the 2025 Act. There is still no “pay by the return due date” relief for this clause.
Does Section 43B(h) apply to payments to medium enterprises?
No. The disallowance applies only to micro and small enterprises registered under the MSMED Act. Dues to medium enterprises and to unregistered suppliers are outside its scope.
Where do I report the Section 43B(h) disallowance in the tax audit?
In Clause 22 of Form 3CD, with the disallowed amount reconciled to the computation of income. For FY 2025-26 this is reported under the 1961 Act framework.
Disclaimer
This article is published by Tax Update India for general information and educational purposes only. It is not legal, tax, or professional advice. The transition between the Income-tax Act 1961 and the Income-tax Act 2025 involves period-specific treatment, and the application to your facts depends on the financial year, the supplier’s MSME status, and your agreements. Verify the relevant sections, rules, and CBDT FAQs against the primary source before acting, and consult a qualified professional for advice on your specific situation.
Get your 43B(h) exposure mapped before the audit
If your team is preparing FY 2025-26 tax audits, the Section 43B(h) MSME disallowance is the line item most likely to move the tax number, and the hardest to fix after year-end. Talk to an Expert to review your Udyam-classified creditors, quantify the disallowance, and map your opening position cleanly into Section 37 of the new Act for Tax Year 2026-27.
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