[Nayan Singhal is a student at Jindal Global Law School.]
Section 194N in the Income Tax Act 1961 (Act) was introduced in the Union Budget of 2019 by the Finance Minister. The section charges tax deduction at source (TDS) of 2% on cash withdrawal from banks. In order to prevent businesses from making heavy payments in cash, such a provision is introduced to discourage large amounts of cash withdrawal from the bank accounts. In order to prevent the misuse of this provision by withdrawing money from multiple accounts, the provision clarifies that TDS is to be paid on the withdrawal by a person in excess of INR 1 crore from one or more accounts. Also, the government has decided to give exemption to certain businesses where a large number of cash withdrawals are really necessary to run the businesses. For example, government transactions, banking company transactions, co-operative society transactions are exempted under this provision to pay TDS. This article analyzes the constitutionality of the said provision and related aspects.
Implementation of provisions under the TDS regime
Before analyzing the constitutional validity of the said provision, it is imperative to look at the fundamental structure of TDS and the reason for introducing the same.
The primary reason for introduction of the TDS regime was advance collection of tax on income in order to ensure the continuous flow of money in the government treasury. Section 4(2) of the Act also used the expression '……in respect of income chargeable under sub-section (1) of Section 4, income-tax shall be deducted at the source”. And Section 190(1) of the Act specifies that '…the tax on such income shall be payable by deduction or collection at source or by advance payment or by payment'. Hence, it is crystal clear that TDS can only be paid on the income received. However, Section 194N introduces the provision of charging TDS on the money withdrawn from the bank accounts and puts extra burden on the banks to charge 2% TDS on the withdrawal of more than INR 1 crore from an individual’s bank account.
Furthermore, as per the provision, TDS is to be charged on cash withdrawal of more than INR 1 crore from banks in a year. Therefore, for those purposes, can it be said that the amount withdrawn by a person from his/her own account would lead to income received or income earned?
One of the basic services which a bank provides includes the service of withdrawing cash from a bank account. Hence, the transaction of withdrawing money from the account would not be considered as a separate business transaction, and the money paid by the bank to the account holder would not be termed as ‘payment’. Likewise, the money received by the account holder would not be termed as ‘income’. Also, there is no proviso in the Act which states that TDS paid under Section 194N would not be considered as income received. Hence, it can be said that TDS can only be charged on the income of the recipient and not on the withdrawal of money from the account. In other words, the basic factor which has to be considered while charging TDS is the generation of income and not the transfer of funds or cash withdrawal.
While proposing such provision, the Finance Minister used the word "levy" of TDS. However, a TDS can never be levied as tax, duty, cess. It just acts as an instrument to withhold the taxable income of a person to fulfil the objective of continuous inflow of income in the government’s fund. Hence, it can be said that the logic behind introduction of this provision does not match with the ideology on which the TDS regime is based.
Constitutional validity of Section 194N
Thus, we are aware that there is no generation of income when an account holder withdraws cash from his/her own bank account and the TDS cannot be charged. However, can it be said that tax can be collected on the transaction which is not liable to be taxed? Of course not, because that is against the basic principle of taxation. Also, as per Entry 82 of the Union List mentioned in the 7th Schedule to the Constitution of India, the Union can only levy taxes on 'income other than agricultural income'. Hence, the constitutional validity of the section is very doubtful.
The apex court has also held in the case of Nathpa Jhakri Joint Venture v. State of Himachal Pradesh that Section 12A of the Himachal Pradesh General Sales-tax Act is unconstitutional in nature because it levies TDS on such transactions which are not subject to levy of tax as per the said statute.
Also, in the case of Bhawani Cotton Mills Ltd v. State of Punjab, the court held that “if the Central Act makes it mandatory that the tax can be collected only at one stage, it is not enough for the State to say that a person who is not liable to pay tax, must nevertheless pay it in the first instance and then claim refund at a later stage. If a person is not liable for payment of tax at all, at any time, the collection of a tax from him with a possible contingency of refund at a later stage will not make the original levy valid.”
Therefore, levy of TDS on cash withdrawal from the bank account is unconstitutional in nature even if the amount deducted at source can be deducted from the total income tax at the time of paying final taxes.
Administrative inefficiency and concluding remarks
The tax administrators play a very important role while drafting a taxation provision, and it is their duty to consider and apply all the principles of taxation law in doing so. The idea of becoming a cashless economy is one of the most important objectives for India’s rapid growth, and the government’s intention to make it cashless is also proper. That said, due to ineffective tax administration and insertion of legal provisions like Section 194N, the government faces many hurdles while achieving the set objectives.
The whole idea of inserting Section 194N is based on a very clear intention. The government also clarified that the total/aggregate cash withdrawal from one or more accounts in a year would be considered to deduct tax at source. But there are various loopholes which are left open-ended, and the government has still not clarified their position.
Firstly, the provision does not consider the business of currency exchange which involves a large number of cash transactions and whether those would be exempted from this provision. Secondly, Section 194N only considers those transactions which are made by the bank to the account holder and the sum of INR 1 crore would only include the cash withdrawals made by the account holder from his/her bank account. But this entire provision can be easily misused because there is no TDS on payment through uncrossed bearer cheque, and the amount paid through bearer cheque would not be considered while calculating the total cash withdrawal. For example, if A (an account holder) signs an uncrossed bearer cheque in the name of B (a family member or any other known person), then B can just withdraw money from A’s account and that transaction would not be taken into account while calculating all the transactions which are subject to TDS under Section 194N. This method can be used to easily misuse the said provision and a person who has already withdrawn INR 1 crore from his/her account can sign an uncrossed bearer cheque in some other person’s name and get the money withdrawn in his/her name.
As per the said provision, banking companies, co-operative societies and post offices are liable to deduct 2% on the cash withdrawal when the limit of INR 1 crore is crossed. However, there is already a huge pre-existing red-tapism in our banking system, and putting more burden on the banks is not an example of good tax administration. Keeping track of all the transactions to deduct TDS is a tough task, and this extra service undertaken by the banks could also lead to an increase in service charge or increase in any other cost which might indirectly hamper the customers or the account holders.
Lastly, if the intention of the government is to “levy” TDS, then a new category of tax should be introduced for levying tax on such transactions. The provision of levying TDS on cash withdrawal does not fit in the TDS regime as there is no income that is being generated and the cash given by the bank to its account holder can never be termed as a regular business transaction.