The Indian Income Tax Act, 1961, contains several provisions that govern the deduction of tax at source (TDS) on various payments. One such important section is Section 196 of Income Tax Act, which deals with payments made to highly significant institutions like the Government of India, Reserve Bank of India (RBI), & other notified corporations. In simple terms, this section states that when interest or dividend or other sums payable to Government or RBI are made, no TDS is required to be deducted. This is a vital exception because these institutions are already exempt from income tax obligations, and deducting TDS would not only be unnecessary but also create administrative complications.
What is Section 196 of Income Tax Act?
Section 196 clarifies the rule that no deduction of tax shall be made on any interest or dividend payable to Government, Reserve Bank, or certain corporations. This means that even though the Income Tax Act generally requires TDS on interest or dividend payments, this rule does not apply when the recipient is a specified authority such as:
- The Government of India
- Reserve Bank of India (RBI)
- A corporation established under a Central Act, which is exempt from income tax
This section is straightforward but has great significance in financial administration.
Why Was Section 196 Introduced?
The purpose behind introducing Section 196 is rooted in efficiency & clarity. Since the Government & RBI do not pay income tax on such receipts, there is no sense in applying TDS provisions to them. For example:
- If a commercial bank pays interest to the RBI, deducting TDS would only complicate the process, as RBI does not need such deductions.
- Similarly, any dividend or interest payable to the Government should reach them directly without tax being withheld."
Thus, Section 196 eliminates unnecessary compliance & ensures smooth financial operations.
Also Read: TDS on Foreign Payments: Everything You Need to Know
Key Features of Section 196 of Income Tax Act
Let us break down the provision into simple terms:
- No TDS Requirement – Payments of interest or dividend or other sums to the specified entities are free from TDS deduction.
- Eligible Entities – Only the Government, Reserve Bank of India, and certain notified corporations are covered.
- Type of Payments Covered –
- Interest payable on securities, deposits, or borrowings
- Dividend payable on shares
- Other sums that would normally attract TDS under the Act
Example to Understand Section 196 Better
Imagine XYZ Bank Ltd. is required to pay interest of ₹50 crore to the Reserve Bank of India (RBI) for government securities. Under general rules of TDS, the bank would deduct tax before making payment. But since Section 196 clearly states no deduction of tax shall be made on any interest or dividend payable to Government or RBI, the entire ₹50 crore will be paid without any tax deduction.
Relationship with Other TDS Sections
Section 196 interacts with other provisions in the Income Tax Act that deal with TDS, such as:
- Section 194A – Requires deduction of TDS on interest (other than securities).
- Section 194 – Provides for TDS on dividends.
- Section 196 – Acts as an exemption clause, ensuring that when the payee is the Government, RBI, or certain corporations, no TDS applies."
Thus, Section 196 functions as a carve-out from general TDS rules.
Judicial Views and Interpretations
Indian courts & tribunals have upheld the principle of Section 196 in several rulings. The emphasis has always been that payments to RBI or the Government are not taxable in the hands of such institutions, and hence TDS provisions do not apply.
Also Read: TDS on Dividend Income Explained
Practical Impact of Section 196
For companies, banks, and financial institutions, Section 196 reduces compliance burdens. They do not need to file TDS returns, generate TDS certificates, or deposit TDS for payments made to such exempt entities. From the Government’s perspective, this ensures direct receipt of funds without administrative back-and-forth.
Section 196 in Simple Language
- If you are paying interest, dividend, or other sums to the Government, RBI, or certain corporations, you do not deduct TDS."
- It applies only to these entities. If you pay the same amount to a private company or individual, regular TDS rules will apply.
Why This Matters for Businesses and Taxpayers
Businesses dealing with RBI or Government securities often make high-value payments. A provision like Section 196 ensures that they are not burdened with unnecessary tax deductions, reconciliations, and compliance."
For taxpayers, it also adds clarity. They know that not all payments require TDS & that certain exemptions exist to maintain smooth functioning of large financial institutions.
Conclusion
Section 196 of Income Tax Act is a crucial exemption provision that ensures payments of interest, dividend, or other sums to the Government, RBI, or certain corporations are not subject to TDS. This saves time, avoids unnecessary compliance, and simplifies transactions with these institutions. If you are a business, bank, or taxpayer making payments to these authorities, Section 196 makes it clear—no TDS deduction is required.
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