No TDS applies to stockist margins, unexercised ESOPs, or statutory interest paid to MSME vendors

By | July 15, 2026
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No TDS applies to stockist margins, unexercised ESOPs, or statutory interest paid to MSME vendors

Issue

  • Issue I (Trade Discount vs. Commission): Whether margins retained by stockists under regulatory/quality controls represent taxable “commission” requiring TDS under Section 194H.

  • Issue II (ESOP TDS Timing): Whether the TDS obligation on ESOPs under Section 192 triggers at the time of grant/accounting recognition or only when the employee exercises the option.

  • Issue III (MSME Interest TDS): Whether statutory interest accrued on delayed payments to MSME vendors under the MSMED Act qualifies as “interest” under Section 2(28A), attracting TDS under Section 194A.

Facts

  • On Trade Margins: The assessee, a pharmaceutical company, sold goods to distributors for resale. The Assessing Officer (AO) claimed that the strict territorial, pricing, and inventory controls imposed by the company established a principal-agent relationship. He estimated the stockist margins to be a 30% embedded commission and raised tax demands under Section 201(1)/201(1A) for non-deduction under Section 194H.

  • On ESOPs: The assessee granted ESOPs to employees and recorded the corresponding employee compensation expenditure in its books of account. The AO contended that the right to shares accrued as a taxable perquisite at the grant/accounting stage and demanded TDS under Section 192.

  • On MSME Interest: The assessee accrued interest liability for delayed payments to MSME suppliers under the MSMED Act and voluntarily disallowed this expenditure under Section 37(1) in its return. The AO classified this liability as taxable interest under Section 2(28A) and raised a tax demand for non-deduction under Section 194A.

Decision

  • In favor of Assessee (Trade Margins): Held that the relationship between the pharmaceutical company and its stockists is on a principal-to-principal basis. Quality, supply chain, and regulatory controls are standard industry requirements and do not convert a buyer-seller relationship into an agency. The margins are ordinary trading profits, not commission under Section 194H.

  • In favor of Assessee (ESOPs): Held that the taxable event for ESOPs under Section 17(2)(vi) arises exclusively when the employee exercises the option and shares are actually allotted or transferred. No perquisite tax liability or TDS obligation exists at the preliminary grant or book recognition stage.

  • In favor of Assessee (MSME Interest): Held that statutory interest on delayed payments under the MSMED Act does not arise from borrowed money or debt incurred, excluding it from the scope of “interest” under Section 2(28A) and Section 194A. Furthermore, since the assessee had already voluntarily disallowed the expense under Section 37, treating it as a default under Section 201 is legally groundless.

Key Takeaways

  • Regulatory Supervision is Not Agency: Commercial quality checks and distribution supervision mandated by regulations do not modify a principal-to-principal sales transaction into a taxable agency contract.

  • Allotment Triggers ESOP TDS: Book entries or accounting provisions for ESOPs do not trigger withholding tax obligations; the statutory trigger is the physical transfer/allotment of shares to the employee.

  • No TDS on MSME Statutory Interest: Statutory penal interest paid to MSME vendors under the MSMED Act is not a financial debt transaction, exempting it from TDS under Section 194A.

IN THE ITAT MUMBAI BENCH ‘B’
DCIT (TDS)
v.
Novartis Healthcare (P.) Ltd
Amit Shukla, Judicial Member
and Prabhash Shankar, Accountant Member
IT Appeal No.1907 and 1908 (Mum) of 2026
CO No.139 (Mum) of 2026
[Assessment years 2015-16 and 2017-18]
MAY  27, 2026
Ms. Preeti Datar and Ms. Dhanshree Patil for the Appellant. Shri Ganesh Sudhakar Bare, CIT DR for the Respondent.
ORDER
Amit Shukla Judicial Member.- The aforesaid appeals have been filed by the Revenue and the Cross Objections have been filed by the assessee against separate impugned orders passed by the learned Addl./JCIT(A), Mumbai, in proceedings arising under section 201(1)/201(1A) of the Income Tax Act, 1961 for assessment years 2015-16 and 2017-18. Since common issues are involved in both the appeals and the cross objections arising from identical facts and common controversy, the same were heard together and are being disposed of by way of this consolidated order.
2. The core dispute involved in the present appeals relates to three issues, namely, firstly, whether the trade margins/discounts earned by stockists and distributors on purchase and resale of pharmaceutical products are liable for deduction of tax at source under section 194H by treating the same as commission; secondly, whether tax was deductible under section 192 at the stage of grant/accounting recognition of Employee Stock Option Plans (ESOPs)/Employee Stock Benefit Plans (ESBPs); and thirdly, whether interest on delayed payments to MSMEs attracts deduction of tax at source under section 194A thereby rendering the assessee liable as an “assessee in default” under section 201(1) along with consequential interest under section 201(1A).
3. Briefly stated, the facts borne out from the record are that the assessee company is engaged in the business of manufacturing and trading of pharmaceutical and healthcare products through an organized distribution network consisting of stockists/distributors. During the course of proceedings under section 201(1)/201(1A), the learned AO formed a view that the margins retained by the stockists represented commission embedded in the pricing mechanism and therefore the assessee ought to have deducted tax under section 194H. The learned AO further held that the ESOP/ESBP expenditure booked by the assessee in its books during the relevant year attracted deduction of tax at source under section 192 at the stage of grant itself and not at the stage of exercise of options by the employees. The AO also held that the interest liability accrued under the MSMED Act on delayed payments to MSMEs constituted “interest” within the meaning of section 2(28A) and therefore tax was deductible under section 194A.
4. The learned AO while invoking section 194H observed that the assessee exercised substantial control over the stockists with regard to pricing, territory, inventory management and sales structure and therefore according to him the relationship between the assessee and stockists was not on principal-to-principal basis but in the nature of principal and agent. He further proceeded to compute alleged commission income by taking 30% of the sales made to stockists as discount/commission and accordingly raised demand under section 201(1) and interest under section 201(1A).
5. Before the lower authorities, the assessee had vehemently contended that the transactions between the assessee and the stockists were pure sale transactions undertaken on principal-to-principal basis. It was submitted that once goods were sold to stockists, the entire risk and reward in relation to such goods vested with the stockists; the stockists independently sold the goods to retailers; sales tax/GST was charged on such transactions; and the margins earned by stockists represented normal trading margins and not commission. It was also specifically pointed out that there was no separate payment of commission by the assessee to the stockists and therefore the very foundation for invoking section 194H was absent.
6. The learned first appellate authority, after extensively examining the agreements entered into between the assessee and stockists and the factual matrix of the pharmaceutical distribution business, held that the conclusions drawn by the AO were based on generalized assumptions and selective reading of certain clauses of the agreement without appreciating the commercial realities of pharmaceutical trade. The learned CIT(A) observed that the clauses relied upon by the AO were ordinary business conditions incorporated to maintain quality standards and regulatory compliance in the pharmaceutical industry and could not be construed to establish a principal-agent relationship. It was further observed that in pharmaceutical business, the manufacturer is naturally expected to maintain strict controls and monitoring because any failure in the supply chain or handling of products may expose the manufacturer to legal and regulatory consequences. Thus, the existence of such business controls by itself cannot alter the essential character of a sale transaction.
7. The learned CIT(A) further observed that the AO himself had adopted inconsistent approaches while determining the alleged commission. On one hand, the AO treated the difference between the agreed invoice price and the resale price as discount/commission and on the other hand arbitrarily computed the alleged commission at 30% of sales made to stockists without any supporting material or rational basis. The learned CIT(A) specifically noted that the AO’s ratio decidendi could not support itself because there was no coherence in the very methodology adopted for determination of alleged commission income. The appellate authority also observed that the margin between the mutually agreed sale price and the MRP is a standard trade practice in the pharmaceutical industry and forms part of the ordinary business ecosystem between manufacturer, wholesaler and retailer. Accordingly, after discussing various judicial precedents including decisions of the coordinate benches and the judgment of the Hon’ble Bombay High Court in Piramal Healthcare Ltd., the learned CIT(A) concluded that the relationship between the assessee and stockists was purely on principal-to-principal basis and therefore section 194H was not applicable.
8. On the issue relating to ESOP/ESBP, the learned AO held that once the assessee had granted options to employees and recognized expenditure in its books, tax deduction liability under section 192 arose immediately at the stage of grant itself. According to the AO, the moment the right to apply for shares was granted to the employee, the perquisite stood accrued and therefore TDS ought to have been deducted during the relevant financial year itself.
9. Before the learned CIT(A), the assessee contended that the statutory scheme of section 17(2)(vi) itself clearly postulates that the taxable perquisite in relation to ESOPs arises only on the date on which the option is exercised by the employee and not at the stage of mere grant of option. Reliance was placed upon the language of section 17(2)(vi), CBDT Circular No. 9/2007 and judicial precedents. It was submitted that an option merely confers a contingent right and unless the employee exercises such option and shares are actually allotted/transferred, no taxable perquisite accrues.
10. The learned first appellate authority accepted the aforesaid contention and after reproducing the statutory provisions of section 17(2)(vi) observed that taxing statutes, particularly charging provisions, have to be strictly interpreted. It was specifically noted that the Explanation to section 17(2)(vi) itself provides that the value of specified securities or sweat equity shares shall be the fair market value on the date on which the option is exercised by the assessee as reduced by the amount actually paid by the employee. The learned CIT(A), therefore, held that once the Act itself unambiguously provides that perquisite becomes taxable on exercise of option, the withholding obligation under section 192 can also arise only at the stage of exercise of option and not at the stage of grant. Accordingly, the learned CIT(A) held that the AO had travelled beyond the clear statutory language in seeking to fasten TDS liability at the stage of grant itself.
11. On the issue relating to delayed payment interest to MSMEs, the assessee had explained before the lower authorities that the liability accrued under the MSMED Act represented damages/penalty for delayed payment and was not in the nature of interest arising from monies borrowed or debt incurred. It was further submitted that such amount had already been voluntarily disallowed by the assessee under section 37(1) while filing its return of income and therefore no prejudice whatsoever had been caused to the Revenue.
12. The learned CIT(A), while deciding the issue, analyzed the provisions of section 2(28A), section 194A and the MSMED Act and observed that though the MSMED Act describes the liability as “interest”, the same essentially arises from delayed payment for purchase consideration and not from any borrowing of money or debt transaction as contemplated under section 2(28A). The learned CIT(A) further accepted the contention that once the assessee itself had voluntarily disallowed the expenditure under section 37(1), the assessee could not again be treated as an “assessee in default” under section 201 in respect of the same amount. Accordingly, the issue was decided in favour of the assessee.
13. Aggrieved by the aforesaid findings, the Revenue is in appeal before us whereas the assessee has filed Cross Objections on limited issues arising out of the impugned orders.
14. At the outset, both the parties fairly submitted that all the issues involved in the present appeals now stand squarely covered by the decision of the coordinate bench of the Tribunal in assessee’s own case for assessment year 2020-21, which thereafter has also been followed for assessment year 2021-22. Copies of the said orders have been placed before us.
15. We have heard the rival submissions, perused the orders of the authorities below and carefully gone through the material placed on record. We have also perused the orders passed by the coordinate bench of the Tribunal in assessee’s own case for assessment years 2020-21 and 2021-22 wherein identical issues arising on identical set of facts have been adjudicated. The relevant findings and conclusions of the coordinate bench are reproduced hereunder:-
“7. Heard both sides in detail and perused the record on lower authorities and written submission filed by both parties and Bench is of the opinion that the relationship between appellant company and stockists is not that of the Principal to Agent but of Principal to Principal Novartis Healthcare Private Limited and hence, the TDS provisions are not applicable for the following reasons:-
(a) The sale invoices of company to stockists clearly show that the goods were forwarded as “sale” and not as “commission” because GST applicable was paid by company.
(b) Whatever controls exercised by company is only as per the guidelines of Medical Council of India and company is not exercising any other control. The goods once sold to stockists are kept with them at their risk only.
(c) The stockists are showing the “sales” of company as their “purchases” and as per their Sale Invoices. After deducting the expenditure, the net profit/loss was offered for taxation in their Income Tax Returns. Even presuming that appellant company pays “commission” as contended by Revenue, they would deduct the tax and as per TDS certificate, the sellers would reduce their tax payment.
(d) The stockists are at liberty to sell the goods as per MRP mentioned and they only earns their margin, expenditure would be incurred by them and they filed their Income Tax Returns as their “purchases” from company and “sales” to retail customers.
(e) Reliance is placed on following the Pharma Cases where it was held that TDS provisions as “commission” are not applicable and hence followed :
(i) Unichem Laboratories ITA No. 4592, 4593/Mum/2014 dated 26.1.2016 (Mum-ITAT)
(ii) Wockhardt Ltd. ITA No. 182/Mum/2015 dated 8.5.2025 (Mum-ITAT) Novartis Healthcare Private Limited
(f) The Ld. DR had mentioned that the decisions of Mumbai ITAT of Unichem Labs and Wockhardt are being contested by Revenue in Bombay High Court and the same are pending.
(g) Hon’ble Bombay High Court in the case of Piramal Healthcare Ltd.   (Bom) addressed this issue and held that in similar circumstances, the relationship is akin to Principal to Principal to Agent, and hence section 194H or 194J are not applicable and hence TDS need not be deducted by appellant company.
(h) For TDS provisions to be applicable, the appellant must be the one making a payment of commission or brokerage. In our case, the appellant company was receiving sale price and not paying to stockist.
In view of the above detailed discussion and by respectfully following the decisions of Hon’ble Jurisdictional High Court and Coordinate Benches in similar circumstances, the Bench decides that appellant company need not deduct TDS as TDS provisions are not applicable.
8. The next ground relates to non-deduction of TDS under section 192 of the Act on Employees Stock Options (ESO’s). The appellant company’s contention is that no TDS under section 192 arises in the current financial year which was granted in January 2020, but TDS has to be deducted in the year in which employee exercises the option because employee had to fulfill certain conditions in subsequent years. The appellant company contends that this perquisite value under section 17(2)(vi) of the Act was taxable in A.Y. 2023-24 only.
8a. Per contra, Ld. DR argues that the appellant company has quantified the grant to the employee in the current year and booked the salary related expenditure in its books in the current year. Hence, TDS should be done in this year itself.
Novartis Healthcare Private Limited 8b. Heard both sides. The Bench decides the issue in favour of appellant company for the following reasons :-
(a) The CBDT Circular No. 9/2007 says that the tax liability on company arises only when the benefit is exercised and actually availed, but not at the stage of mere grant.
(b) Section 17(2)(vi) of the Act and the Explanation says that on the date of transfer or allotment, the difference between FMV of option on the date of option exercised and price paid by employee is liable to tax in the hands of employee. This issue is squarely covered in favour of the appellant in the following cases :
• Total Energies Marketing India Pvt. Ltd. [ITA Nos. 127 to 133/MUM/2023 dated 16 August 2023 (Mumbai ITAT)]
• Infosys Technologies Ltd [297 ITR 167 (SC)]
• Bharat Financial Inclusion Ltd. [ITA No. 237/Hyd/2017 dated 3 August 2018 (Hyderabad ITAT)]
8c. In view of the above, the addition made by Ld. AO is deleted. The Appeal of the Revenue is DISMISSED.
CO No.121/Mum/2025
The Respondent company filed a Cross Objection by raising following three grounds of appeal on the issue of applicability of section 194A of the Act on interest on delayed payments to MSMEs.
9. On this issue, the Ld. AO held that there is a TDS shortfall of Rs. 40,000/- and interest under section 201(1A) of the Act of Rs. 13,600/-. The Ld. AO held that the Respondent Company ought to have deducted tax under section 194A of the Act on the provisions created by it in respect of interest delayed payments to MSMEs. The failure of doing the same resulted this addition by Ld. AO. The Ld. CIT(A) concurred with the view of Ld. AO.
The Respondent company has contended before ITAT that the Ld. AO and Ld. CIT(A) are not correct in interpreting the law as above because the amount so accrued by Respondent company in respect of delayed payments to MSME is not arising from any debt claim or money borrowed by company and hence the provisions of section 194 read with section 2(28A) of the Act are not applicable. Consequent levy of interest under section 201(1A) of the Act should also be deleted, by Ld. AR of the appellant company.
9b. The Ld. DR relied on the orders of lower authorities.
10. Heard both parties. The Bench agrees with the view of Ld. AR of the appellant company because Section 2(28A) of the Act defines interest to mean interest payable in any manner in respect of moneys borrowed. The interest paid on account of delay in payment of consideration is in the nature of sale of price of goods and hence such interest is outside the purview of interest under section 2(28A) of the Act. The Bench agrees with the view of Ld. AR of the appellant company because no person can be treated as “assessee in default” under section 201 where there is a voluntary disallowance under section 37(1) of the Act. In other words, when the appellant company itself disallowed the expenditure voluntarily, section 194A and consequent interest under section 201(1A) cannot be applied. This view is fortified by the decision of Coordinate Bench of Mumbai in the case of Wokhardt Ltd. (ITA No. 2633/Mum2024 dated 5.8.2024 A.Y. 2015-16).
11. In view of above, the appellant succeeds in Cross Objection and appeal is allowed.
16. From the perusal of the aforesaid findings of the coordinate bench, it is abundantly clear that the entire controversy has already been examined in considerable detail after analyzing the agreements with stockists, the commercial structure of pharmaceutical distribution business, the statutory framework governing ESOP taxation and the nature of liability arising under the MSMED Act. The Tribunal has categorically held that the relationship between the assessee and stockists is on principal-to-principal basis and not that of principal and agent and therefore the margins retained by stockists constitute ordinary trading margins and not commission within the meaning of section 194H. The Tribunal has also appreciated the commercial realities of pharmaceutical trade and observed that regulatory supervision, quality controls and supply chain monitoring are natural incidents of such business and do not convert a sale transaction into an agency relationship.
17. Likewise, on the issue relating to ESOPs, the Tribunal has categorically held that the taxable event under section 17(2)(vi) arises only when the employee exercises the option and the shares are allotted/transferred and not at the stage of grant of option. The Tribunal has also appreciated the distinction between accounting recognition of expenditure during vesting period and accrual of taxable perquisite under the charging provisions of the Act. The coordinate bench has thus rightly held that the withholding obligation under section 192 cannot be artificially fastened merely because the assessee recognized expenditure in its books during the vesting period.
18. Similarly, on the issue relating to interest on delayed payments to MSMEs, the Tribunal has held that such liability does not arise from monies borrowed or debt incurred within the meaning of section 2(28A) and therefore falls outside the ambit of section 194A. The Tribunal has further accepted the contention that once the assessee itself had voluntarily disallowed the expenditure under section 37(1), there remained no justification to once again invoke section 201 and treat the assessee as an “assessee in default”.
19. Before us also, the learned Departmental Representative could not point out any distinguishing feature either on facts or in law so as to persuade us to take a different view from the one already consistently taken by the coordinate bench in assessee’s own case. Judicial discipline requires that where identical issues arising on identical facts have already been adjudicated by the coordinate bench in assessee’s own case and such decisions continue to hold the field, then in absence of any contrary binding precedent, the same deserves to be followed consistently.
20. Accordingly, respectfully following the decisions of the coordinate bench in assessee’s own case for assessment years 2020-21 and 2021-22, we hold that the assessee cannot be treated as an “assessee in default” under section 201(1) in respect of trade margins earned by stockists under section 194H, ESOP/ESBP expenditure under section 192 and interest on delayed payments to MSMEs under section 194A. Consequently, the levy of interest under section 201(1A) also does not survive. The findings of the learned CIT(A) are accordingly upheld and the grounds raised by the Revenue stand dismissed.
21. In so far as the Cross Objections filed by the assessee are concerned, since the issues raised therein also stand squarely covered in favour of the assessee by the aforesaid decisions of the coordinate bench, the same are allowed in terms indicated hereinabove.
22. In the result, the appeals filed by the Revenue are dismissed and the Cross Objections filed by the assessee are allowed.