Section 194Q and the Jute Aarth Crisis: When Tax Compliance Clashes with Agency Law

The introduction of Section 194Q into the Income Tax Act, 1961, via the Finance Act, 2021, was designed to widen the tax net and create audit trails for high-value business transactions. However, its mechanical application has inadvertently triggered a systemic crisis for traditional commission-based business models, most notably in the jute industry’s aarth system. This provision mandates buyers with a turnover exceeding ten crore rupees to deduct tax at source (TDS) on purchases over fifty lakh rupees. The resulting conflict between procedural tax compliance and the substantive principles of agency law reveals a critical flaw in legislative design.

The Heart of the Conflict: Agency Law vs. Tax Mechanics

The jute aarth system, operational for over 150 years, is built on classic agency principles codified in the Indian Contract Act, 1872. Aarth agents act as intermediaries between jute cultivators and mills, facilitating purchases on behalf of disclosed principals (the mills). Their role is purely fiduciary: they negotiate, inspect, and pay on the principal’s behalf, never taking beneficial ownership of the goods. Their sole income is a commission, typically 0.5% to 2% of the transaction value.

Section 194Q disrupts this model by implicitly defining the “buyer” as the person making the payment, regardless of legal capacity. When an aarth agent pays a supplier from the principal’s funds, TDS is deducted and recorded against the agent’s PAN. This creates a juridical absurdity: the agent, who is not a party to the sale contract and has no beneficial interest in the goods, is treated as the purchaser for tax purposes.

The Triple Burden on Agents

This misinterpretation imposes a three-fold burden:

1. Juridical Inaccuracy: Agents are forced to account for transactions in which they have no proprietary interest, contradicting the doctrine of disclosed agency where the contract exists solely between the principal and the third party.

2. Procedural Deadlock: To claim credit for the TDS (as shown in Form 26AS), the agent must match it against their taxable income under Section 199. Since their real income is only commission, they face an impossible choice: either forgo the TDS credit (suffering financial loss) or falsely record the gross transaction value as their own purchases/sales, distorting their financial statements.

3. Tax Audit Distortion: If gross transaction values are recorded as turnover, agents risk being pulled into mandatory tax audit under Section 44AB, even when their actual commission income is far below the threshold. This imposes disproportionate compliance costs.

An Indefensible Inconsistency

The conflict is exacerbated by a glaring internal inconsistency within the same Finance Act. Section 206C(1H), which mandates tax collection at source (TCS) on sales, explicitly addresses agency via a CBDT circular. It clarifies that for sales through an agent, the principal is deemed the seller. No such clarification exists for Section 194Q regarding purchases. Thus, an agent facilitating both purchases and sales for the same principal is schizophrenically treated as a non-agent (buyer) in one scenario and an agent (non-seller) in the other, despite the legal relationship being identical.

The Path to Resolution

This conundrum cannot be solved by agents alone. A three-pronged solution is necessary:

1. Immediate Action (Advisory): Agents should adopt a bifurcated documentation method. Their books should reflect only commission income, while maintaining separate, detailed records of transactions conducted for principals to satisfy procedural queries without conceding legal ownership.

2. Medium-Term Certainty (Executive): The CBDT must issue a circular mirroring its clarification for Section 206C(1H). It should unequivocally state that for purchases made by a commission agent on behalf of a disclosed principal, the principal is the “buyer” for the purposes of Section 194Q.

3. Long-Term Stability (Legislative): Parliament should amend Section 194Q to insert an Explanation explicitly excluding agents acting in a fiduciary capacity from the definition of “buyer,” thereby aligning the statute with commercial reality and established agency law.

Conclusion: Governing with Principle

The jute aarth crisis is a microcosm of a larger challenge: ensuring tax administration respects the complexity of India’s commercial ecosystem. A law aimed at preventing revenue leakage should not force compliant intermediaries to choose between economic loss and legal misrepresentation. Tax policy must be interpreted harmoniously with foundational statutes like the Indian Contract Act. Resolving this issue by prioritizing substantive legal accuracy over procedural rigidity would affirm that India’s tax system exists to support, not destabilize, the enduring commercial institutions that underpin the economy.