MSME Reporting: Section 22, Schedule III Ageing, and the Two Tax Audit Clauses People Swap

The MSME question gets asked as one thing and is actually four: a payment rule, an interest rule, a disclosure in the accounts, and two different clauses of the tax audit report. They use different definitions, and only one of them is about the disallowance everybody talks about.

Computing the disallowance is a separate problem, and it is covered in section 43B(h). This is about reporting what you computed.

The two provisions that generate the numbers

Section 15 fixes when payment is due: on or before the date agreed in writing, or where there is no agreement, before the appointed day — and the proviso is the part that matters, because "in no case shall the period agreed upon between the supplier and the buyer in writing exceed forty-five days from the day of acceptance or the day of deemed acceptance."

Section 16 fixes what happens when it is not paid: the buyer is liable to pay compound interest with monthly rests to the supplier from the appointed day or from the date immediately following the agreed date, at three times the bank rate notified by the Reserve Bank — and it says so notwithstanding anything in any agreement between the parties or in any law in force. It is not waivable by contract.

That interest is a real liability of the client whether or not anyone raises an invoice for it. Most books do not carry it. Which is exactly why the reporting asks about it separately from the principal.

Where each number is reported

In the financial statements — section 22. A buyer required to get its accounts audited must furnish five specific items in the annual statement of accounts:

• the principal amount and the interest due thereon, shown separately, remaining unpaid to any supplier at the end of the accounting year;
• the amount of interest paid under section 16, along with the amount of the payment made to the supplier beyond the appointed day;
• the amount of interest due and payable for the period of delay in making payment, but without the interest specified under the Act;
• the amount of interest accrued and remaining unpaid at the end of each accounting year; and
• the amount of further interest remaining due and payable even in the succeeding years, until the date when the interest dues are actually paid to the small enterprise — for the purpose of disallowance as a deductible expenditure under section 23.

Five items, of which four are about interest. A note that gives only the principal outstanding to MSME suppliers has answered one fifth of the requirement.

In the balance sheet — Schedule III. The trade payables ageing schedule has four row categories: MSME, Others, Disputed dues – MSME, Disputed dues – Others, across four buckets — less than 1 year, 1-2 years, 2-3 years, more than 3 years, measured from the due date of payment, or from the date of the transaction where no due date is specified. The formats are set out in the Schedule III checklist.

So the MSME classification has to exist at invoice level, not just as a note total, because an ageing cannot be built from a total.

In the tax audit report — two different clauses. This is where files go wrong:

• Clause 22 of Form 3CD reports the amount of interest inadmissible under section 23 of the MSMED Act. Interest. Under Form No. 26 it is clause 33(a).
• Clause 26 reports sums allowable only on actual payment under section 43B, which is where the principal disallowance under section 43B(h) sits. Under Form No. 26 the section 37(2) items run through clauses 32, 33(b) and 33(c).

Putting the 43B(h) principal into clause 22, or the section 23 interest into clause 26, is the single most common MSME error in a tax audit file, and both are visible to a reviewer who reads the clause headings.

In CARO — nowhere. CARO 2020 has no MSME clause. Clause (vii) covers undisputed statutory dues, which MSME dues are not; the Order's twenty-one clauses are listed in CARO 2020, clause by clause. If a checklist tells you to report MSME under CARO, it is wrong.

What the client has to supply, and what they will send instead

The classification is a fact about the supplier, and it cannot be derived from the buyer's books. Three things are needed per supplier:

• The Udyam registration certificate, because the category — micro, small or medium — is on it, and only micro and small enterprises are within section 15.
• Whether there is a written agreement fixing the payment period, because that decides whether the clock is forty-five days or runs to the appointed day.
• The nature of the supplier's activity, because registration alone does not place a supplier inside section 15.

What clients usually send is a list of vendors who "are MSME", assembled from whoever mentioned it on an invoice. That list is not evidence, and a disallowance computed on it is not defensible.

An explainer to send the client

Firms ask for a version of this they can paste into a message. Something like:

We need three things for each of your suppliers so your accounts and tax audit are correct. One: a copy of their Udyam registration certificate, if they have one — the certificate says whether they are micro, small or medium, and it changes how their bill is treated. Two: whether you have a written agreement with them about payment terms, and a copy if you do. Three: nothing else — if a supplier is not registered, that is a complete answer, just tell us.

>

Why it matters: for micro and small suppliers, the law requires payment within 45 days where there is a written agreement, and sooner where there is not. If a bill is paid late, the expense cannot be claimed as a deduction in that year — it moves to the year you actually pay. There is also interest payable under the MSMED Act, which is not allowed as a deduction at all.

>

Sending the certificates now costs you an email. Not sending them costs you tax.

A working order for the file

• Get the certificates first; everything downstream is keyed to the supplier's category.
• Classify at invoice level — ageing and the Schedule III split both need it.
• Compute the principal position for section 43B(h) and the interest position under sections 16 and 23 separately, because they are reported in different clauses.
• Draft the section 22 note with all five items, not just the principal.
• Reconcile the note, the Schedule III ageing and the tax audit clauses to each other before signing. They are three views of one population, and a reviewer will add them up.