There’s no legal bar on paying partners’ remuneration in cash

By | September 24, 2025
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There’s no legal bar on paying partners’ remuneration in cash; such payments are fully deductible if they meet the conditions of Section 40(b) of the Income-tax Act, 1961.

Issue

Can remuneration paid by a partnership firm to its partners be disallowed simply because the payment was made in cash rather than through a bank?

Facts

  • The assessee, a partnership firm operating a hospital, paid remuneration to its partners in cash.
  • The Assessing Officer (AO) disallowed the entire amount of this remuneration. The only reason cited for the disallowance was that the payments were made in cash.
  • It was undisputed that the remuneration was paid in accordance with the terms of the partnership deed and the total amount paid was within the monetary limits specified in Section 40(b)(v) of the Income-tax Act.

Decision

The Tribunal ruled in favour of the assessee and deleted the disallowance.

  • It held that there is no provision in the Income-tax Act that prohibits a firm from paying remuneration to its partners in cash. The restrictions on cash payments, like Section 40A(3), do not apply to payments of remuneration to partners.
  • Since the payment was genuine, authorized by the partnership deed, and within the statutory limits for deductibility, the mode of payment was not a valid ground for disallowance.

Key Takeways

  • No Prohibition on Cash Remuneration: Unlike many other business expenses, there is no specific section in the Act that restricts or disallows partner remuneration based on the mode of payment.
  • Conditions for Deductibility are Key: The primary conditions for allowing partner remuneration are that it must be authorized by a valid partnership deed and must not exceed the monetary limits calculated under Section 40(b). If these are met, the deduction is valid.
  • Genuineness of Payment: As long as the payment is genuine, the method of payment (cash or bank) is irrelevant for the purposes of its deductibility as partner remuneration.

A general disallowance of cash salary expenses is invalid without the Assessing Officer proving that a specific payment breached the daily limit set by Section 40A(3).

Issue

Can an Assessing Officer make a blanket disallowance of salary expenses under Section 40A(3) of the Income-tax Act, 1961, merely because the payments were generally made in cash during the year, without identifying any specific violation?

Facts

  • The assessee-firm paid salaries to its hospital employees in cash. It maintained a proper payroll register with all employee details.
  • The Assessing Officer (AO) disallowed the salary expenses, giving the broad reason that the payments had been made in cash.
  • Crucially, the AO did not provide any specific finding or evidence to show that any payment made to a particular employee on a single day had actually exceeded the cash payment limit prescribed under Section 40A(3) (e.g., ₹10,000).

Decision

The Tribunal ruled in favour of the assessee and deleted the disallowance.

  • It held that a disallowance under Section 40A(3) cannot be made on a general, estimated, or presumptive basis.
  • The burden is on the AO to identify and bring on record specific instances of payments that have breached the statutory limit.
  • Since the AO failed to provide any such specific finding, the blanket disallowance based merely on the cash mode of payment was not justified and was legally unsustainable.

Key Takeways

  • Burden of Proof is on the AO: To invoke the disallowance under Section 40A(3), the Assessing Officer must do the work of identifying the specific transactions that violate the provision. A general observation that payments are in cash is insufficient.
  • Section 40A(3) is Transaction-Specific: The restriction applies to the aggregate of payments made to a single person in a single day. It is not an outright ban on paying salaries or other business expenses in cash.
  • Good Record-Keeping is a Strong Defense: By maintaining a detailed payroll register, the assessee was able to effectively counter the AO’s general allegation and shift the onus back to the AO to prove a specific violation.
IN THE ITAT PUNE BENCH ‘B’
Sonone Surgical and Ophthalmic Hospital
v.
Income-tax Officer
Vinay Bhamore, Judicial Member
and Dr. Manish Borad, Accountant Member
IT Appeal No.896 (PUNE) of 2025
[Assessment year 2019-20]
SEPTEMBER  3, 2025
Paras Munot for the Appellant. Akhilesh Srivastva for the Respondent.
ORDER
Dr. Manish Borad, Accountant Member.- The captioned appeal at the instance of assessee pertaining to A.Y. 2019-20 is directed against the order dated 27.02.2025 of National Faceless Appeal Centre (NFAC), Delhi passed u/s.250 of the Income-tax Act, 1961 (hereinafter also called ‘the Act’) arising out of Assessment Order dated 11.03.2024 passed u/s.147 r.w.s144B of the Act.
2. Assessee has raised following grounds/additional grounds of appeal :
“1. The Ld. Assessing Officer erred in law and in fact in making addition and Ld. CIT(A)-NFAC also erred in law and in fact in confirming addition of Rs. 55,05,000/-in respect of disallowance of business expenses and other transfers without considering factual position of the same.
Additional Grounds of Appeal
“The appellant contends that the notice issued under section 148 by the Jurisdictional Assessing Officer (JAO) is invalid, void ab initio and without Jurisdiction, as it contravenes the mandatory faceless and automated procedure outlined in Section 151A and the e-Assessment of Income Escaping Assessment Scheme, 2022 (Faceless Scheme). This contention is supported by the Supreme Court’s recent ruling in ADIT (INT TAXN) 2 HYD & ANR. v. Deepanjan Roy (SLP Civil Diary No(s) 33956/2025, dated 16-072025, which emphasized that such notices must be issued through automated and faceless processes under Section 144B.”
3. At the outset, Ld. Counsel for the assessee requested for not pressing the legal issue raised in additional ground. The same is therefore dismissed as ‘not pressed’.
4. Now the only effective issue that remains for our consideration is regarding the addition of Rs.55,05,000/-made by the Assessing Officer disallowing business expenses.
5. Brief facts of the case are that the assessee is partnership firm running a Hospital. No regular return for A.Y. 2019-20 was furnished. Based on the information about huge transactions carried out during the year under consideration, notice u/s.148 of the Act was issued and in compliance thereto return of income was filed on 10.03.2023 declaring income of Rs.34,93,220/-. During the course of reassessment proceedings carried out after validly serving statutory notices, ld. Assessing Officer observed that the books of account of the assessee have been audited u/s.44AB of the Act and the Audit Report was also e-filed on 30.10.2019. However, due to oversight by the Tax Consultant, return could not be furnished. Ld. Assessing Officer thereafter examined the audited financial statement and without doubting the gross revenue received during the year disallowed expenses of Rs.55,05,000/- which comprises of three items; firstly disallowance of remuneration paid to the partners at Rs.18.00 lakh paid in cash, disallowance of salary expenditure of Rs.35.88 lakh which has been paid in cash; and thirdly disallowance of rent paid at Rs.1,70 lakh. Income assessed at Rs.89,98,220/-.
6. Aggrieved assessee preferred appeal before ld.CIT(A) but failed to succeed.
7. Now the assessee is in appeal before this Tribunal.
8. Ld. Counsel for the assessee submitted that the remuneration has been paid to the partners in cash and is well within the four corners of law. As regards the salary paid to the staff, he submitted that individual payment to each of the staff at a particular date is not exceeding the limit prescribed u/s.40A(3) of the Act and genuine expenses have been incurred and the same deserves to be allowed. Reference was made to the detailed paper book running into 167 pages.
8.1 So far as the disallowance of rent paid at Rs.1.70 lakh is concerned, he fairly admitted that he is not pressing this disallowance.
9. On the other hand, ld. Departmental Representative supported the orders of the lower authorities.
10. We have heard the rival contentions and perused the record placed before us. Disallowance of business expenses of Rs.55,05,000/- is in challenge before us. The said disallowance consist of Rs.1.70 lakh being disallowed for rent payment in cash. Assessing Officer has made the disallowance of Rs.55,05,000/-. While calculating the addition in the body of the assessment order, Ld. Assessing Officer has referred to the rental expenses disallowed at Rs.1.70 lakh but while making the computation of assessed income he has inadvertently mentioned figure of Rs.1.17 lakh. Since ld. Counsel for the assessee requested for not pressing this disallowance, the same is sustained.
11. The other element of the alleged disallowance is the remuneration of Rs.18.00 lakh paid to the partners. Assessee being a partnership firm can make the payment of remuneration to the partners in cash and there is no legal bar to make such disallowance. Ledger account of the partners is attached. Remuneration has been given to the partners within the limit prescribed u/s.40A(b)(v) of the Act and there is no dispute to this extent. Therefore, since the remuneration to partners have been given as per the partnership deed and within the limit prescribed under the income-tax Act, the genuineness of the said payment is not in doubt and further assessee being a partnership firm can make payment of remuneration to partners in cash, therefore the alleged disallowance of Rs.18.00 lakh is hereby deleted.
12. The third limb of the disallowance is ‘salary paid to the employees amounting to Rs.35.88 lakh. Ld. Assessing Officer has himself mentioned the details of the employed at page 9 of the assessment order. Assessee has filed copy of payroll register at pages 142 to 153 of the paper book. Assessee firm is running a hospital and all details of employees are duly maintained. Ld. Assessing Officer has also not given any specific finding that any payment to an employee at a particular date exceeded the limit u/s.40A(3) of the Act. Disallowance has been made merely because the payments during the year has been made in cash but then when the assessee has made the payment in cash within the limits of cash payment provided under the Act, ld. Assessing Officer should not have made the disallowance merely for making the payment in cash. Ld. Assessing Officer ought to have observed that the assessee is running a hospital and employees are required for running it. Further, as against the gross receipts of Rs.1,26,16,492/-, the assessee has shown the net profit including remuneration given to partners amounts to Rs.54,84,691/- which means that the assessee has declared the net profit before the appropriation of remuneration to partners at 43.53% for carrying out the business activity. Details have been duly maintained. Revenue/Gross Receipts are not in dispute. Books of account have not been rejected. Considering all these facts, we fail to find any justification in the disallowance made by the Assessing Officer and sustained by ld.CIT(A). Finding of ld.CIT(A) is set aside and the impugned disallowance of salary expenses at Rs.35.88 lakh is hereby deleted.
13. In the result, appeal of the assessee is partly allowed as per the terms indicated above.