Withholding tax explained with example

What is withholding tax?

Withholding tax (WTH) is tax deducted at source or also referred as retention tax.
A (PAYER) -------->----B (RECEIVER)
As per income tax law,
Payer A has to deduct (withhold) a portion of tax before making payment to receiver B.
Payer is supposed to issue WTH tax certificate to receiver B after deducting WTH tax.
Payer is supposed to pay the withhold tax amount to tax authority.
Payer is supposed to file WTH tax returns to tax authority.

Base amount for calculating withholding tax amount? Example

WTH tax amount is calculated by applying a particular percentage rate on base amount.
Base amount for applying WTH tax percentage is always GROSS AMOUNT.
Example:
Company purchases raw material from vendor of 1000 with 20% input tax.
Gross amount = 1000 (net amount)+ 200 (tax)== 1200
Net amount = 1000 and tax amount = 200

As we know WTH tax percentage is applied on gross amount. If withholding tax 10% is to be applied on
above transaction then
WTH tax = 10% on gross amount = 10% on 1200 = 120
Vendor will be paid = 1200- 120 (withholding tax) = 1080

Withholding tax percentage is declared by income tax authority.

Income tax department has declared different tax percentage for different scenarios (nature of payment/
receiver is residential or non-residential/ receiver is individual or HUF or company).
Lets try to understand how applicable WTH tax rate is decided for a transaction:
Above mentioned is just few example of income tax act, there are many more sections in income tax act.

As shown above, applicable tax percentage is decided on the basis of:

Nature of payment:
Interest income other than security/ Payment to contractor/ Insurance
commission/ Brokerage/ Rent/ Professional & technical services etc.

Recipient (receiver or payee) is residential or non-residential

Different WTH tax rate is applied on transaction depending upon if the recipient is residential or non-
residential.
Recipient (receiver or payee) is individual or HUF (Hindu Undivided Family) or
other.
Different WTH tax rate is applied on transaction depending upon recipient is company or others.

Lower tax rate as decided by accessing officer

Receiver fills form 13 and submits to accessing officer along with relevant documents. If assessing officer is
satisfied, form 13 for lower withholding tax rate is approved.
Receiver presents approved form 13 to payer so that payer deducts WTH tax amount at lower rate.

If receiver does not presents PAN to payer

A residential receiver is supposed to provide PAN to payer, If PAN is not provided then tax applicable will be
20%.

Overall, WTH tax rate depends upon nature of transaction, recipient is residential or non-residential, recipient
is company or other than company.

Withholding tax remittance process

Payer who deducted WTH tax amount is supposed to pay the amount to its local tax authority. Each state has
its own local tax authority.
Tax payment has to be done on or before 7th of the next month.