Perks Come at a Price!

The Hidden Tax Bite of Section 194R (with a side of GST!)

CA Nirav Nisar
By: CA Nirav Nisar
(caniravnisar@gmail.com)

Introduction

In recent years, tax compliance in India has moved beyond incomes and profits. Section 194R of the Income Tax Act, 1961 was introduced with a bang in the Union Budget 2022. Since its introduction, it has turned the heat up on corporate freebies. Though originally perceived as a tool to track influencer freebies and sponsored conferences, Section 194R now has deep and far-reaching implications on certain employee benefits, especially those designed outside of traditional salary structures. Your employee of the month incentive, that iPhone gift for meeting sales targets, or that all-expenses-paid offsite to Thailand – could these now trigger dual tax obligations? Let's explore

Section 194R: What's the fuss?

Section 194R of the Income Tax Act, 1961 reads as: Any person responsible for providing to a resident, any benefit or perquisite, whether convertible into money or not, arising from business or the exercise of a profession, by such resident, shall, before providing such benefit or perquisite, as the case may be, to such resident, ensure that tax has been deducted in respect of such benefit or perquisite at the rate of ten per cent of the value or aggregate of value of such benefit or perquisite.

Based on the above, the key features of Section 194R are as follows:

  1. Applicability: This section is applicable with effect from 1st July 2022
  2. Deductor: TDS is required to be deducted by a person who is responsible for providing any benefit or perquisite
  3. Liability: On providing any benefit or perquisite arising from business or the exercise of a profession by recipient
  4. Mode: Irrespective convertible into money or not. TDS applies even if the benefit is wholly/partially in cash or kind
  5. Rate: 10% on the value or the aggregate value of benefit or perquisite
  6. Threshold: ₹20,000 per recipient per financial year
  7. Time limit: TDS must be deducted before providing the benefit or perquisite

Are employee benefits covered under Section 194R?

One of the conditions of Section 194R is that the benefit or perquisite should be arising from business or the exercise of a profession. The term "arising from" is defined under Black's Law Dictionary as "To spring up, originate, to come into being or notice; to become operative, sensible, visible or audible; to present itself".

Whether benefits or perquisite given by the employer to its employees would attract TDS under Section 194R?

Generally, the perquisites provided to employees can broadly arise in two contexts:

  • Perquisites forming part of the employment contract: For instance, as part of the employee's agreed remuneration package a company may provide a rent-free accommodation or a car facility, etc. In such cases, the benefit is inherently linked to the terms of employment, and the value is taxable as perquisites under the head "Salaries," with TDS applicable under Section 192. In clarification to Question no. 4 of Circular No. 12 of 2022, CBDT has clarified that benefits/perquisites given by employer to its employees are subject to Section 17 of Income Tax Act (perquisites as a part of salary) and liable to TDS under Section 192 (TDS on Salary).
  • Perquisites forming part of a general company policy: For example, employee of the year awards, festival gifts, special discounts to employees, free training programs, etc. offered to employees irrespective of explicit contractual mention. Notably, Circular No. 12 of 2022 does not expressly differentiate between perquisites stipulated in an employment contract and those granted under a general company policy. This benefit, though not contractually promised, still arises from the employer–employee relationship. Here too, taxability would fall under the head "Salaries" and TDS under Section 192.

In both of the above situations, the benefits/perquisites may fall squarely within the scope of Section 17 of the Income-tax Act and are subject to TDS under Section 192. Therefore, Section 194R, which applies to benefits/perquisites provided to a resident in the course of business or profession, may not have an application in the context of employer–employee relationships.

If the benefits or perquisite given to the employees of a client, would it attract TDS under Section 194R?

The answer, as clarified in CBDT Circular No. 12 of 2022, is yes. The logic is that the benefit is provided because of the employee's relationship with the recipient entity (the client), not in their personal capacity. Therefore, for TDS purposes, the benefit is considered as given to the recipient entity, even if the employee actually uses it.

Gist of an example given in the said Circular:

Suppose, a pharmaceutical company gives free medicine samples to a doctor who works as an employee in a hospital. Here:

  • The pharma company must deduct TDS under Section 194R in the name of the hospital, since the doctor is receiving it by virtue of being the hospital's employee.
  • The hospital may then treat this as a perquisite to its employee under Section 17 of the Income-tax Act and deduct TDS under Section 192 (TDS on salaries).
  • In such a case it would be first taxable in the hands of the hospital and then allowed as deduction as salary expenditure. Thus, ultimately the amount would get taxed in the hands of the employee and not in the hands of the hospital.
  • The hospital can claim credit of the TDS deducted under Section 194R while filing its Income Tax Return.

Is this Circular no. 12 of 2022 binding?

Generally, the Circulars/Guidelines/Instructions issued by Central Board of Direct Tax (CBDT) are binding of the Tax Authorities and are not binding on the taxpayers. However, Sub-section (3) of Section 194R specifically provides that guidelines issued by CDBT under Section 194R would be laid before each House of Parliament and shall be binding on Income Tax Authorities as well as the person providing benefits/perquisites. Thus, this Circular would be binding even on the taxpayers.

Overlap of Section 194R with other TDS provisions

Although Section 194R was introduced to widen the TDS net for benefits and perquisites, its application often overlaps with other TDS provisions, creating practical challenges.

Example: Free Holiday Package to Distributors

Suppose a company manufacturing LED TVs offers a free holiday package to its distributors for achieving a specified sales target. This can trigger:

  • Section 194C – on payments made to the tour operator for arranging composite package (transport, accommodation, food and sightseeing), and
  • Section 194R – on the entire value of the tour package, as it represents a benefit/perquisite to the distributor

The dilemma:

Should the Company:

  • Deduct TDS only under Section 194C?
  • Deduct TDS only under Section 194R?
  • Deduct TDS under both Section 194C as well as 194R?

In the case of Section 194Q, sub-section (5) expressly provides that where TDS is deductible under any other section, Section 194Q will not apply. However, Section 194R contains no such exclusion.

Historically, overlaps involved deciding between one section or another. Example, a payment to a contractor that also included professional fees (194C vs. 194J). This was a single chargeable event, and the decision rested on identifying the section most specifically applicable. Where amounts could be reasonably bifurcated, TDS was deducted under each relevant section for its respective component. If bifurcation was not possible, the conservative approach was to deduct under the more specific provision.

Why Section 194R is different?

The nature of cross-application under Section 194R is distinct. Here, two independent chargeable events can arise from the same commercial arrangement:

  • First Leg – Expense Payment: When the company pays the tour operator for the holiday package, this is a payment for carrying out a contractual service (arranging travel, stay, food, sightseeing). This squarely attracts Section 194C.
  • Second Leg – Benefit Transfer: When the same holiday package is given to a distributor free of cost, it becomes a benefit/perquisite arising from business relations. This is a separate taxable event under Section 194R.

Although linked to the same underlying arrangement, the TDS triggering events are separate. This is why the cross-application under Section 194R is not about choosing between two provisions - it is about recognizing that both provisions may apply independently and therefore, applying the principle of harmonious construction, both TDS deductions may be required.

GST Implications?

Perquisites given to employees may ALSO attract GST under certain conditions. Though as per Schedule III of CGST Act, any services provided by employee to employer is neither a supply of goods nor a supply of services. Whereas, as per proviso to Clause 2 of Schedule I of CGST Act, gifts exceeding ₹50,000 by employer to employee can be treated as a deemed supply and attract GST.

Further, Input Tax Credit (ITC) is not available on goods/services used for gifts or personal consumption (Section 17(5)(h)). Therefore, if ITC is availed on such items, later given as benefits or gifts, the company must reverse the ITC or pay GST on deemed supply.

Conclusion

Gone are the days when companies could offer "perks in kind" without scrutiny. Today, each gift, voucher, or holiday package carries potential tax consequences under Section 194R as well as GST. Therefore, business entities should carefully scrutinize Income Tax and GST implications before releasing any benefits/perquisites. It's no longer enough to be generous, you must be tax compliant too.