Section 398 — Consequences of TDS-TCS Failure | ITA 2025

Section 398 — - CONSEQUENCES OF FAILURE TO DEDUCT/PAY/COLLECT

Section 398 of the Income-tax Act, 2025 consolidates the consequences regime that, under the 1961 Act, was distributed across sections 201 (assessee in default), 201(1A) (interest), 206C(6)/(7) (TCS default), and 234E (late filing fee). It is the operative provision attaching civil and quasi-criminal liability on a deductor or collector who fails to comply with TDS/TCS obligations.

Statutory text — Income-tax Act, 2025

(1) If a person, including the principal officer of a company,—

(a) who is required to deduct or collect any amount under this Act; or

(b) referred to in section 392(2)(a), being an employer, does not deduct or pay, or does not collect or pay, or after so deducting or collecting fails to pay, the whole or any part of the tax, as required by or under this Act, then such person shall be deemed to be an assessee in default in respect of such tax in addition to any other consequences which that person may incur under this Act.

(2) Irrespective of anything contained in sub-section (1), any person,—

(a) including the principal officer of a company, who fails to deduct; or

(b) responsible for collecting tax as per section 394(1) (Table: Sl. Nos. 1 to 5 and 9), who fails to collect, the whole or any part of the tax, as required under this Chapter, on the amount paid or credited to the account of payee or, on the amount collected or debited to the account of the buyer or licensee or lessee, as the case may be, shall not be deemed to be an assessee in default in respect of such tax, if the payee or buyer or licensee or lessee has—

(i) furnished his return of income under section 263;

(ii) taken into account the amount for computing income in that return of income; and

(iii) paid the tax due on the income declared by him in such return of income, and the person furnishes a certificate to this effect from an accountant in the form as may be prescribed.

(3) (a) Without prejudice to sub-section (1), if any person, as referred to in that sub-section does not deduct or collect the whole or any part of the tax or after deducting or collecting fails to pay the tax as required under this Act, he shall be liable to pay simple interest—

(i) at 1% for every month or part of a month on the amount of such tax from the date on which such tax was deductible or collectible to the date on which such tax is deducted or collected; and

(ii) at 1.5% for every month or part of a month on the amount of such tax from the date on which such tax was deducted or collected to the date on which such tax is actually paid;

(b) the interest referred to in clause (a) shall be paid before furnishing the statement as per the provisions of section 397(3)(b);

(c) if the person referred to in sub-section (1) is not deemed to be an assessee in default under sub-section (2), then the interest as per clause (a)(i) is payable from the date on which that tax was deductible or collectible to the date of furnishing of return of income by the concerned payee or buyer or licensee or lessee, as the case may be;

(d) when an order is made by the Assessing Officer for the default under sub-section (1), the interest shall be paid by the person as per such order.

(4) Where the tax has not been paid after it is deducted or collected, the amount of the tax together with the amount of simple interest on it as referred to in sub-section (3)(a) shall be a charge upon all the assets of the person referred to in sub-section (1).

(5) The order shall not be made under sub-section (1) deeming a person to be an assessee in default for failure to deduct or collect the whole or any part of the tax from any person—

(a) after six years from the end of the tax year in which tax was deductible or collectible; or

(b) after two years from the end of the tax year in which the correction statement is delivered under section 397(3)(f), whichever is later.

(6) The provisions of sections 286(1) and 286(3) shall apply to the time limit spec- ified in sub-section (5).

(7) No penalty shall be levied under section 412 on the person mentioned in sub- section (1), unless the Assessing Officer is satisfied that such person, without good and sufficient reasons, has failed to deduct or collect and pay such tax. Processing.

Corresponding provision — 1961 regime

INCOME-TAX ACT, 2025	INCOME-TAX ACT, 1961
2025 provision	1961 counterpart
s. 398 -- Assessee in default for TDS shortfall	s. 201(1) (FA 1987 onwards)
s. 398 -- Interest on shortfall	s. 201(1A) -- 1% / 1.5% per month
s. 398 -- TCS default	s. 206C(6)/(6A)/(7)
s. 398 -- Late filing fee 200/day	s. 234E (FA 2012 from 1-7-2012)
s. 398 -- Time-limit for assessee-in-default order	s. 201(3) (FA 2014 -- 7-year limit)

STATUTORY ARCHITECTURE

Section 398 codifies four distinct consequences: (a) the deductor / collector who fails to deduct/collect or having deducted/collected fails to pay is deemed an 'assessee in default'; (b) interest at 1%/1.5% per month accrues from the date deductible to the date of payment; (c) late filing of the quarterly return attracts INR 200/day capped at the TDS amount; (d) under Chapter XX, penalties under s. 271C/271CA (1961) / corresponding 2025 sections.

DEDUCTOR's DEFENCE -- RECIPIENT PAID TAX (HINDUSTAN COCA-COLA)

The first proviso preserves the deductor's defence: the deductor will not be treated as assessee in default if the recipient has (a) furnished his return of income, (b) included the income, and (c) paid the tax due thereon. Form 26A certificate by a CA verifying these three conditions discharges the deductor of the principal tax demand. Interest under s. 398 (1%/1.5%) however still applies for the period of default.

INTEREST RATES AND COMPUTATION

Interest @ 1% per month (or part of month) for the period from the date on which TDS was deductible to the date on which it is actually deducted. Interest @ 1.5% per month (or part of month) for the period from the date on which TDS was deducted to the date on which it is actually paid to the credit of the Central Government. Interest is mandatory and not waivable except on application to CBDT under s. 119(2)(a) for genuine hardship cases.

TIME-LIMIT FOR ASSESSEE-IN-DEFAULT ORDER

Order under s. 398 (s. 201(3) of 1961) must be passed within 7 years from the end of the FY in which payment was made or credit given. FA 2022 (effective 1-4-2022) extended the limit to 7 years from 6 years (and earlier 4 years pre-FA 2014). For non-residents, the time-limit may extend up to 10 years (s. 201(3) proviso post-FA 2022).

LATE FILING FEE -- s. 234E ANALOG

INR 200 per day from due date of quarterly return until actual filing, capped at the TDS amount of the quarter. Levied automatically on processing; collection by adjustment against any refund or by demand. Constitutional validity upheld in Rashmikant Kundalia v. UoI (2015) 373 ITR 268 (Bom).

CONSEQUENCES BEYOND s. 398

In addition to s. 398 consequences: (a) disallowance of corresponding expenditure under s. 40(a)(i)/(ia) of 1961 [s. 35 of 2025] -- 30% disallowance for resident payees, 100% for non-residents; (b) s. 271C penalty (1961) for tax not deducted -- equal to the amount; (c) prosecution under s. 276B (1961) for failure to pay deducted tax -- imprisonment 3 months to 7 years; (d) s. 446 / 447 / 448 (2025 penalty Chapter) framework.

PRACTITIONER PLANNING NOTES

Form 26A defence: where short-deduction notice issued, immediately obtain CA-certified Form 26A from each affected payee confirming (i) PAN, (ii) inclusion in return, (iii) tax paid; submit to AO within 30 days of notice.
Interest computation: ensure 1% (non-deduction period) and 1.5% (post-deduction non-payment period) computed distinctly; AO often combines and assesses 1.5% throughout -- challenge.
Late filing fee waiver: not waivable per Bom HC; only relief is via CBDT s. 119(2) circular for systemic issues (e.g. natural calamity / portal failure).
Time-limit: file rectification under s. 254 (1961) / s. 287 (2025) for orders passed beyond limitation; Bombay HC has held s. 201(3) is mandatory.
S. 40(a)(ia) disallowance avoided: if TDS deposited before due date for filing return u/s 139(1), the disallowance does not arise (FA 2010 onwards); and where deposited later, deduction allowed in year of payment.
Higher rate u/s 206AA (PAN-less): if 5% PAN-less or higher rate not applied, s. 398 default attracts; document PAN collection.
Lower-rate certificate cases: if Form 13 grants rate of (say) 2% but deductor deducts at 0%, the differential is the s. 398 default; deduct at certificate rate strictly.
Multiple PANs / merger / demerger: TAN-PAN linkages must be updated within 30 days of corporate action; orphan TDS challans cause inflated default position.
Stay of demand: under s. 220(6) of 1961 / s. 416 of 2025 -- 20% deposit standard for stay; or as per CBDT instruction in office circulars (which may permit lower deposit in genuine hardship).

CASE-LAW

Hindustan Coca-Cola Beverages (P) Ltd. v. CIT (2007) 293 ITR 226 (SC) -- foundation.
CIT v. Eli Lilly & Co. (India) (P) Ltd. (2009) 312 ITR 225 (SC) -- s. 201 framework for foreign payments.
Tube Investments of India Ltd. v. ACIT (2010) 325 ITR 610 (Mad) -- s. 40(a)(ia) -- post-payment deduction allowable.
Rashmikant Kundalia v. UoI (2015) 373 ITR 268 (Bom) -- 234E constitutional validity.
Vodafone West Ltd. v. ACIT (2013) 37 taxmann.com 158 (Guj) -- 201(3) limitation.
CIT v. Calcutta Knitwears (2014) 362 ITR 673 (SC) -- procedural compliance for 201 order.

CROSS-REFERENCES

s. 391 -- direct payment / assessee in default.
s. 393 / 394 -- substantive TDS / TCS.
s. 397 -- compliance & reporting (Form 26A reference).
s. 35 (2025) / s. 40(a)(ia) (1961) -- expenditure disallowance.
s. 446-448 (2025 penalty Chapter).
s. 416 / 220 -- recovery & stay of demand.

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