New TDS Section 194T: TDS on Payments by Partnership Firms to Partners under Finance Act 2025 – Complete Guide for AY 2026-27
New TDS Section 194T: TDS on Payments by Partnership Firms to Partners under Finance Act 2025 – Complete Guide for AY 2026-27
The Finance Act, 2025, has introduced several key amendments in the realm of Tax Deducted at Source (TDS), and among the most significant is the new Section 194T, which specifically targets payments made by partnership firms (including LLPs) to their partners during reconstitution or dissolution. While earlier such transactions were governed under the capital gains regime (Sections 45(4) and 9B), the addition of TDS under Section 194T provides a procedural enforcement mechanism ensuring tax is collected upfront on such transactions.
This article explains everything you need to know about the new TDS Section 194T (Partnership context) — its scope, applicability, rate, compliance requirements, and implications for both partnership firms and their partners, effective from Assessment Year 2025–26.
What is Section 194T (As Introduced by Finance Act 2025)?
Section 194T (as distinct from the earlier Section 194T for online gaming introduced in 2023) has been newly added under the Finance Act, 2025, to ensure TDS is deducted on payments made by a partnership firm to its partners in specific cases. The provision applies when a partner receives any money or capital asset from the firm upon reconstitution or dissolution, and such payment is over and above the balance in their capital account.
✅ Applicability:
- Applies to Partnership Firms and LLPs.
- Triggered when a partner exits (retirement) or upon reconstitution/dissolution of the firm.
- Covers payments made in cash or kind (i.e., both monetary amounts and transfer of capital assets).
- Focuses on excess distribution — the portion of payment above the partner’s capital account balance (excluding revaluation).
🧾 Statutory Backing:
This section complements existing provisions:
- Section 45(4): Deals with capital gains tax on reconstitution when capital assets or money are transferred to partners.
- Section 9B: Covers deemed transfer of assets by the firm to partners.
Section 194T enforces these provisions by requiring TDS at source.
TDS Mechanism under Section 194T: Rate and Timing
Section 194T mandates that partnership firms must deduct TDS at 10% on the “excess amount” paid to the partner, calculated as follows:
Excess = Amount or Fair Market Value of Asset given to partner – Capital account balance (excluding revaluation reserves)
📌 Key Points:
- TDS Rate: 10% on the excess amount.
- Deductor: The partnership firm or LLP making the payment.
- Deductee: The partner receiving the money/asset.
- Time of Deduction: At the time of credit or actual payment/transfer, whichever is earlier.
- Form: TDS to be deposited with the government and reported through Form 26Q; TDS certificate (Form 16A) to be issued to the partner.
Example to Understand Section 194T in Practice
Let’s say Partner A retires from XYZ & Co. and is paid ₹80 lakhs by the firm. His capital account balance (excluding revaluation) stands at ₹50 lakhs. Here’s how Section 194T will apply:
- Excess Payment = ₹80 lakhs – ₹50 lakhs = ₹30 lakhs
- TDS @ 10% on ₹30 lakhs = ₹3 lakhs
- The firm must deduct ₹3 lakhs as TDS and deposit it with the government.
- Partner A will receive ₹77 lakhs in hand, and the firm will issue a Form 16A showing ₹3 lakhs TDS.
This TDS will reflect in Form 26AS of Partner A and can be adjusted in his ITR (income tax return) against final tax liability.
Implications for Firms and Partners
The introduction of Section 194T (Partnership-specific) brings much-needed procedural clarity and tax discipline in partnership transactions that were previously under-reported or undervalued. Here are the implications:
🔸 For Partnership Firms:
- Must carefully compute each partner’s capital account excluding revaluation surpluses.
- Required to determine FMV (Fair Market Value) in case of non-monetary payments.
- Need to deduct and deposit TDS timely, file quarterly TDS returns, and issue TDS certificates.
- Risk of penalties, interest, and disallowance under Section 40(a)(ia) if TDS is not properly handled.
🔸 For Partners:
- Will see TDS deducted even on non-cash payouts (e.g., receiving property or stock).
- TDS is deductible regardless of taxability in the hands of the partner (since this is a withholding mechanism).
- Must report these receipts correctly in ITR and adjust TDS against tax liability or claim refunds if over-deducted.
Conclusion: Section 194T Brings Procedural Strength to Capital Withdrawal Taxation
The introduction of Section 194T (Partnership-focused) by the Finance Act, 2025, is a landmark move aimed at plugging tax leakages during capital withdrawals by partners, especially during reconstitution or dissolution of firms. While the substantive taxability was already in place through Section 45(4) and 9B, the absence of a TDS requirement led to weak compliance.
With this new provision, partnership firms must now act as tax collectors at source, ensuring that tax is deducted and paid upfront on any excess payouts to partners. It places the onus on firms to maintain detailed and transparent capital accounts and to handle partner exits with proper documentation and tax reporting.
As the rule becomes effective from AY 2025–26, both firm managers and tax professionals must update their systems and processes to incorporate this TDS provision. Partners, too, must stay informed to understand the tax deducted from their settlements and ensure proper tax planning and reporting.
