The Micro, Small, and Medium Enterprises (MSME) sector is undeniably a cornerstone of India’s economic fabric, accounting for approximately 30% of the country’s GDP, nearly 45% of exports, and employing over 24 crore individuals. Heralded as the engine of entrepreneurial innovation and inclusive development, MSMEs have gained substantial momentum under government initiatives such as the Aatmanirbhar Bharat Abhiyaan.
MSME Reclassification: Broadening the Ecosystem
Originally governed by the MSMED Act, 2006, MSME classification has recently undergone significant revision in the Union Budget 2025–26, reflecting the changing landscape of business scales. The thresholds based on investment in plant, machinery, or equipment (PME) and annual turnover have been substantially raised to encompass a wider spectrum of enterprises:
| Enterprise Category | Investment Limit (INR) | Annual Turnover Limit (INR) |
|---|---|---|
| Micro | Up to 2.5 crores | Up to 10 crores |
| Small | Up to 25 crores | Up to 100 crores |
| Medium | Up to 125 crores | Up to 500 crores |
Key Challenges from the Buyer’s Perspective
1. Section 43B(h): Penalizing Delayed Payments
Introduced through the Finance Act, 2023 (effective AY 2024–25), Section 43B(h) imposes a stringent disallowance of expenses if payments to micro and small enterprises (MSEs) are not made within the stipulated timelines—15 days from receipt of invoice or 45 days otherwise, as mandated by Section 15 of the MSMED Act.
Tax Consequences:
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Expenses not paid within timelines are disallowed in the year of accrual, thereby increasing taxable income.
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Interest liability under Section 16 of MSMED Act, calculated at thrice the RBI bank rate, is payable but non-deductible.
2. Enhanced Transparency through Tax Audit Reporting (TAR)
Amendments in Form 3CD (Clauses 22 and 26) require detailed disclosures of MSME transactions, delayed payments, and related disallowances, increasing audit scrutiny and compliance complexity.
3. Mandatory Disclosure in Books of Accounts
Under Section 22 of MSMED Act, companies must report outstanding dues and interest payable to MSMEs, reinforcing transparency but adding reporting burdens.
4. Absence of Automated MSME Verification
Lack of integration between Udyam portal and Income Tax systems complicates the identification and tracking of MSME suppliers, increasing risks of non-compliance.
5. Ambiguity Over Retention Money
Amounts withheld by buyers as retention for pending contractual obligations remain a gray area for tax treatment, requiring clear guidelines.
6. GST Implications on Payments
Though GST is excluded from TDS calculations, Section 43B(h) disallowances encompass GST as “any sum payable,” thereby impacting cash flows for MSMEs when payments are delayed.
MSME Challenges: Compliance Burden and Credit Constraints
1. High Corporate Tax Burden
Despite moderate rates for larger companies, MSMEs face relatively high corporate tax rates (22–30% plus surcharge), squeezing thin profit margins and limiting reinvestment capabilities.
2. Presumptive Taxation Limitations
The outdated INR 2 crore turnover ceiling under Sections 44AD/44ADA excludes many micro-enterprises from simplified schemes, while exit restrictions dissuade MSMEs from experimenting with these provisions.
3. Complicated GST Compliance: ISD Registration and Invoice Management
Mandatory Input Service Distributor (ISD) registration and management of the Invoice Management System (IMS) create procedural burdens disproportionate to MSMEs’ capacities, risking credit losses and disputes.
4. Limited Awareness and Access to Incentive Schemes
Despite numerous government subsidies and schemes, many MSMEs fail to benefit due to poor outreach, procedural complexity, or incorrect classification on the Udyam portal.
Charting a Path Forward: Practical Solutions and Policy Recommendations
For Buyers:
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Integrate Automated MSME Verification Systems: The government should mandate seamless PAN-based or Udyam-linked verification for buyers to accurately identify MSME suppliers, reducing inadvertent non-compliance.
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Clarify Retention Money Treatment: Issuance of authoritative guidance on retention payments under Section 43B(h) will ease audit disputes and encourage smoother contract management.
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Facilitate Timely Payments: Adoption of digital escrow or payment tracking tools aligned with statutory timelines will enhance compliance and reduce tax disallowances.
For MSMEs:
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Rationalize Corporate Tax Rates: Consider reducing corporate tax rates specifically for MSMEs to 15% or lower, easing cash flow pressures and encouraging formalization.
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Revise Presumptive Taxation Thresholds: Align presumptive taxation turnover limits with the new MSME classification and allow more flexible exit/entry to support dynamic business growth.
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Simplify GST Compliance: Exempt small MSMEs from mandatory ISD registration where input services are nominal; expand education on IMS usage; develop MSME-friendly digital tools to ease credit reconciliation.
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Expand Awareness & Streamline Access to Benefits: Conduct widespread awareness drives and simplify Udyam registration corrections to increase scheme uptake and formal recognition.
Collaborative Measures:
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Policy Synchronization: Coordinate Income Tax, GST, and MSME policies to create a cohesive regulatory environment, minimizing contradictions and compliance costs.
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Capacity Building & Digital Enablement: Invest in MSME-centric digital infrastructure, training, and advisory services to bridge compliance and technology gaps.
Conclusion: Toward a Robust and Inclusive MSME Ecosystem
India’s MSME sector stands at a pivotal juncture — full of promise yet burdened by regulatory and compliance intricacies. While amendments like Section 43B(h) underscore the government’s commitment to protect MSME interests, their implementation has inadvertently introduced new challenges for both buyers and suppliers.
To unlock the true potential of MSMEs, reforms must transcend enforcement and embrace simplicity, clarity, and support. Streamlined policies, enhanced digital integration, and fiscal incentives will collectively empower MSMEs to thrive, thereby fueling India’s economic growth engine sustainably and inclusively.
The road ahead demands a collaborative approach—where government, industry, and MSMEs unite to transform regulatory complexities into enablers of innovation and prosperity
MSME Compliance Checklist & Practical Steps (2025)
| Compliance Area | Buyer’s Responsibilities | MSME’s Responsibilities | Practical Tips & Tools |
|---|---|---|---|
| MSME Verification | - Verify supplier MSME status via PAN/Udyam database - Maintain documentary evidence of MSME status | - Ensure updated and accurate Udyam registration details - Share registration proof promptly | Use integrated vendor management software linked to govt databases |
| Invoice & Payment Timelines | - Adhere to payment timelines as per MSMED Act (15/45 days) - Track payment dates to avoid disallowance under Sec 43B(h) | - Submit clear, timely invoices with MSME registration details - Follow up politely but firmly on overdue payments | Implement digital invoice and payment tracking systems (e.g., TReDS) |
| Section 43B(h) Expense Disallowance | - Monitor pending payments beyond statutory limits - Adjust accounting to reflect disallowed expenses if applicable | - Maintain communication regarding delayed payments - Seek interest on delayed payments as per law | Automate alerts for payment due dates and legal interest calculation |
| GST Compliance | - Ensure GST payments to MSMEs are timely - Properly classify supplies to ensure MSME ITC | - File GST returns accurately and timely - Reconcile ITC with buyer invoices | Use GST filing software tailored for MSMEs; periodic GST training |
| Tax Audit Reporting | - Report MSME payments (principal and interest) in tax audit forms - Maintain detailed schedules as per Clause 22 & 26 of Form 3CD | - Maintain transparent records of receivables and interest charged - Cooperate in buyer audits if required | Maintain digitized accounting records and reconcile monthly |
| Retention Money Treatment | - Clarify and disclose retention amounts in payments - Avoid disallowance through clear contract terms | - Negotiate retention clauses clearly in contracts - Monitor release of retention monies timely | Use contract management tools with payment milestones |
| Access to Government Schemes | - Facilitate MSME vendors in availing government procurement benefits | - Regularly update Udyam registration to access schemes - Apply for relevant incentives and credit-linked schemes | Subscribe to government MSME portals for latest updates |
| Dispute & Interest Claims | - Resolve delayed payment disputes amicably with MSMEs - Apply Section 16 of MSMED Act for interest on delayed payments | - Raise interest claims formally if payments delayed - Utilize legal forums if necessary | Keep correspondence records; seek legal advice early |
