Partner remuneration beyond 40 (b) limits

Consequences of Exceeding Remuneration Limit under Section 40(b) If partners in a partnership firm withdraw remuneration exceeding the limit prescribed in Section 40(b) of the Income Tax Act, the excess amount will be disallowed while computing the firm's business income.

The limits are¹: - *On the initial ₹3,00,000 book profit or loss*: 90% of the book profit, or ₹1,50,000, whichever is greater. -

*On the remaining book profit*: 60% of the profit. Key Consequences - *Disallowance of Excess Remuneration*: The excess remuneration paid to partners will be disallowed while computing the firm's business income. -

*Tax Implications*: The disallowed amount will be added back to the firm's income, increasing its tax liability. -

 *Partner's Tax Liability*: The partner's tax liability will not be directly affected, but they may need to adjust their individual tax returns to reflect the correct income. Important Considerations -

*Partnership Deed*: Ensure the partnership deed allows for remuneration to partners and specifies the terms and conditions. -

*Books of Accounts*: Maintain proper books of accounts to track remuneration payments and ensure compliance with tax laws. -

*Section 40(b) Limits*: Verify the limits prescribed under Section 40(b) and ensure remuneration payments are within these limits to avoid disallowance.² Action Plan -

*Review Partnership Deed*: Check the partnership deed to ensure it allows for remuneration payments and specifies the terms. -

*Verify Remuneration Payments*: Review remuneration payments to ensure they are within the limits prescribed under Section 40(b). -

When remuneration paid to partners exceeds the Section 40(b) limits, the excess is disallowed in the firm computation of income. The allowed deduction is the lower of: actual remuneration paid, or the Section 40(b) ceiling based on book profit.

The Section 40(b) ceiling for FY 2025-26 is:
- For the first Rs 3 lakh of book profit (or where there is a loss): higher of Rs 1.5 lakh or 90% of book profit
- For the balance book profit above Rs 3 lakh: 60% of the balance

The excess remuneration paid beyond this limit is added back to the firm income and taxed at the firm level (30%).

For the partner: the full remuneration received is taxable in the partner hands, not just the allowed portion. This creates a situation where the excess is taxed twice: once in the firm (as disallowed expense) and once in the partner (as income). This is the reason partnership deeds must be carefully drafted to match the 40(b) slab.

For the current financial year, if remuneration was over-paid, the firm should ideally reverse or adjust it before closing books. Post-closure, it gets added back in the ITR computation.

This [Section 40(b) partner remuneration guide](https://taxgarden.in/blog/section-40b-partner-remuneration-deduction-limit-partnership-firm-india) has the full slab calculation and the common drafting mistakes in partnership deeds.

If remuneration paid to partners exceeds the limit prescribed under section 40(b), then the same amount is not allowed as a deduction while computing the firm’s taxable income. The disallowed portion will be added back to the firm’s income, thereby increasing its tax liability.

But payment of remuneration above the limit doesn’t render such payment illegal under partnership law. It just makes it non-deductible on account of tax. The remuneration should also be authorised by the partnership deed and paid to working partners to qualify for deduction.

Thus, for FY 2023-24 & FY 2024-25, compute the allowable remuneration as per the applicable section 40(b) limits and add back any excess remuneration in the firm’s income tax computation.