For many people who work with foreign consultants, expatriate employees, or any situation where payments go to non-residents, the concept of grossing up often feels confusing. You agree to pay someone a fixed amount, but suddenly the tax department expects you to calculate a higher “income” because you paid their tax too.
This is exactly what Section 195A of the Income Tax Act governs.
It explains what happens when income is paid net of tax, meaning the payer (you, the employer or business) takes the responsibility of paying the tax on behalf of the recipient. In such cases, the law does not allow you to deduct tax on the net amount. Instead, it requires you to compute the gross taxable income & deduct TDS on that gross figure.
This prevents under-reporting of income and ensures the tax department receives the correct tax on the actual taxable value.
What Section 195A Really Says — In CA-Style Plain English
Section 195A provides that whenever tax is paid by the payer instead of the payee, the tax chargeable shall be grossed up at the rates in force.
In simple terms:
If you promise to pay someone a fixed amount after tax, then the Income Tax Act assumes the person has received a higher tax-inclusive income. Your TDS must be recalculated based on this higher (gross) figure.
Where this usually applies
- Foreign consultants paid net of tax
- NRI professionals receiving payments in India
- Expatriate employees whose tax is borne by the employer
- Cross-border service agreements
- Cases where a company contracts to pay a “take-home” figure
The logic of the section is clear: the government wants tax to be collected on the full income, not on the reduced amount the person receives.
Also Read: The Tax Rule That Decides Rates for Partnership Firms & AOPs
Why Grossing Up Is Required
Let’s take the practical perspective.
Suppose a foreign engineer is hired for a short-term project in India. His contract clearly states he will receive ₹1,00,000 net of tax.
If TDS is simply deducted from ₹1,00,000, the income shown would be lower than the actual benefit received. After all, paying someone’s tax from your own pocket is also a benefit.
Section 195A ensures this benefit is not hidden."
By requiring grossing up:
✔ The tax department gets the correct tax on the true income
✔ Employers cannot bypass TDS by claiming net-of-tax agreements
✔ Cross-border payments remain transparent & compliant
✔ The actual taxable income reflects the employer-paid tax component
This aligns with global tax principles — tax borne by employer = income for employee.
How Grossing Up Works — Practical Example
Let’s break it down with numbers.
Imagine the net amount payable is ₹1,00,000 and the applicable TDS rate is 20%.
If you pay ₹1,00,000 & then pay tax separately, the gross income is not ₹1,00,000 — it is higher.
Formula used under Section 195A:
Gross Income = Net Income ÷ (1 – TDS rate)
So,
Gross Income = 1,00,000 ÷ (1 – 0.20)
Gross Income = 1,00,000 ÷ 0.80
Gross Income = ₹1,25,000
Meaning:
- Actual taxable income = ₹1,25,000
- TDS = 20% of ₹1,25,000 = ₹25,000
- Net received by payee = ₹1,00,000
This complies with Section 195A because the tax has been “grossed up at the rates in force.”
Connection With TDS on Payments to Non-Residents
While Section 195A specifically deals with grossing up, it works closely with Section 195, which deals with TDS on payments to non-residents.
Under Section 195(6):
“A person responsible for paying any sum to a non-resident must furnish prescribed information, even when the payment may not be chargeable to tax.”
Together, they create a complete framework:
- Section 195 → governs TDS on NRI payments
- Section 195(6) → governs reporting compliance
- Section 195A → governs grossing up when tax is borne by payer
This ensures that all cross-border & NRI-related payments stay fully compliant.
Why Section 195A Matters Today
With global mobility, freelancing, foreign direct investment, and non-resident outsourcing becoming common, companies often enter into net-of-tax contracts without fully understanding tax implications.
Section 195A ensures:
✔ No under-reported income"
✔ No disputes on taxable value
✔ Transparent employer-employee & company-contractor agreements
✔ Proper TDS deduction and reporting
It protects both businesses and the tax department from miscalculations.
Also Read: The Rule That Redefines How You Calculate the True Cost of an Asset
Common Mistakes Taxpayers Make
Despite being straightforward, many taxpayers still get caught in compliance traps:
- Reporting net income instead of gross income: Leads to under-deduction of TDS.
- Ignoring grossing-up formula: Manual estimates often create huge assessment differences later.
- Not documenting net-of-tax agreements properly: This causes litigation during scrutiny.
- Assuming “small amounts” don’t need grossing up: Section 195A applies regardless of the payment size.
- Forgetting that paying someone’s tax = a taxable benefit: This is the core principle of the section.
A little guidance from a CA can prevent these errors & save significant penalties.
Example From Real-world Cases
Foreign consultants frequently demand net-of-tax payouts in short-term contracts. Companies that fail to gross up properly under Section 195A often receive notices during TDS assessments, and the tax department recomputes liability using the grossing-up rule.
This not only increases tax but also leads to interest & penalty demands.
Most of these cases get resolved only when the payer recalculates income using Section 195A.
Final Thoughts
Section 195A might look technical, but its purpose is simple — ensure fairness & accuracy in TDS deduction whenever income is paid net of tax. By requiring grossing up, the law ensures that the tax department receives the correct tax on the true income and that taxpayers don’t unintentionally create compliance risks. If you're dealing with NRI payments, expatriate salary structures, or foreign consultant contracts, understanding Section 195A isn’t optional — it’s essential.
Need Help With Grossing Up, NRI TDS Rules, or Cross-Border Tax Structuring? Talk to a CA at CallMyCA.com — one consultation can save you from penalties, notices, & costly miscalculations.
