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What TDS Deduction Is
Tax Deducted at Source (TDS) is a withholding tax mechanism established under Chapter XVII-B of the Income Tax Act, 1961. The entity making a specified payment — termed the deductor — is required to deduct a percentage of the payment before crediting the recipient, deposit the deducted amount to the central government, and report the deduction in a quarterly return.
The mechanism exists to ensure tax collection at the point of income generation rather than at the time of assessment. For the government, it provides a steady revenue stream throughout the year. For the deductee, the deducted amount constitutes a tax credit that can be claimed against the final tax liability when filing the income tax return.
In India, TDS applies to a wide range of payment types: salaries, professional fees, contractor payments, commission, rent, interest, and payments to non-residents under Section 195. Each payment type carries its own section code, rate, and threshold.
How TDS Works in Practice
Who deducts and who benefits
The deductor is the entity making the payment — a company, an individual (if subject to tax audit), or a government entity. The deductee is the recipient of the payment. The deductor must hold a Tax Deduction Account Number (TAN) and must quote this TAN on all TDS filings. The deductee’s PAN must be correctly quoted in the TDS return for the credit to appear in the deductee’s Form 26AS; a PAN error in the return means the credit does not flow to the deductee, regardless of whether the TDS was correctly deposited.
Deposit and return filing
TDS deducted must be deposited using ITNS Challan 281 by the 7th of the following month (30 April for March deductions). The quarterly return — Form 26Q for non-salary payments, Form 24Q for salary — must be filed by the 31st of the month following the end of the quarter (15 May for the January–March quarter). The return maps each deductee’s PAN, the TDS section, the deduction amount, and the challan reference to the deposit.
The Form 26AS credit mechanism
After the quarterly return is filed and the challan is processed, the deductee’s Form 26AS is updated. The credit appears under Part A (salary TDS) or Part A1 (non-salary TDS) by deductor TAN and quarter. The deductee reconciles this credit against the TDS receivable booked in the ERP to verify that all expected credits have materialised. Discrepancies are classified as reconciliation variances and resolved through correction returns filed by the deductor on the TRACES portal.
Key TDS Sections and Rates
| Section | Payment Type | Rate | Threshold (per year) |
|---|---|---|---|
| 194C | Contractor payments (individual/HUF) | 1% | Rs 30,000 per contract / Rs 1,00,000 aggregate |
| 194C | Contractor payments (others) | 2% | Rs 30,000 per contract / Rs 1,00,000 aggregate |
| 194J | Professional services | 10% | Rs 30,000 |
| 194J | Technical services (notified) | 2% | Rs 30,000 |
| 194H | Commission or brokerage | 5% | Rs 15,000 |
| 194I | Rent — plant and machinery | 2% | Rs 2,40,000 per year |
| 194I | Rent — land, building, furniture | 10% | Rs 2,40,000 per year |
| 195 | Payments to non-residents | Varies by treaty and nature | No threshold |
India-Specific Compliance Considerations
PAN errors in TDS returns are the single largest cause of TDS reconciliation mismatches in Indian enterprise finance. When a deductor files a quarterly return with an incorrect PAN for the deductee — even a single-character transposition — the credit does not appear in the deductee’s Form 26AS. The deductee’s TDS receivable ledger shows an amount that has been deducted, but the Form 26AS credit is zero for that entry. The only resolution is a correction return filed by the deductor on the TRACES portal, which then triggers a re-processing of the challan credit.
Section 40(a)(ia) of the Income Tax Act disallows 30% of an expense as a deduction for the deductor if TDS was not deducted or was deducted but not deposited. This creates a direct P&L impact for the deductor, not just a compliance risk, which explains why large enterprises maintain structured TDS tracking rather than relying on ad hoc review.
For finance teams handling more than 200 TDS deduction events per quarter, TDS reconciliation software that classifies mismatches using structured variance codes — PAN_MISMATCH, NOT_DEPOSITED, QUARTER_ERROR, RATE_DIFFERENCE — reduces the time required to prepare correction return data from days to hours. Combined with automated matching against the bank payment ledger, reconciliation software India platforms handle the full TDS-to-26AS reconciliation cycle within a single workflow.