In India, there's a new rule called the 45-day MSME Payment rule. It says big companies have to pay small businesses (MSMEs) on time. This is important for small businesses in India because it helps them stay financially healthy and run their businesses smoothly.

The 45-day Msme Payment Rule mandates that large companies must clear payments to Micro and Small Enterprises (MSEs) within 45 days of receiving goods or services, or within 15 days if no written agreement exists.

This regulation aims to mitigate the challenges faced by the small-scale sector due to delayed payments, which often lead to cash flow constraints and operational disruptions. By enforcing stricter payment timelines, the rule seeks to foster a more equitable business environment, empowering MSMEs to thrive and contribute to India's economic growth.

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In this article, let's understand this rule and see what it means for businesses in India.

Consequences of Non-Compliance
Impact on Micro and Small Enterprises(MSEs)
Benefits for MSMEs
Challenges for Big Businesses
Proactive Measures Required
Exemptions and Exceptions
Preparing for Compliance

Consequences of Non-Compliance

India's recent enforcement of the 45-day MSME Payment Rule under Section 43B(h) of the Income Tax Act signifies a pivotal moment for the Micro, Small, and Medium Enterprises (MSME) sector.

Non-compliance with the payment deadlines outlined in the 45-day MSME payment rule carries significant repercussions for businesses. Failure to comply with the timeline means corporations will be required to pay tax on the amount due.

Failure to adhere to the specified timelines results in the loss of tax deductions for the delayed payment amount and taxation of the outstanding sum as income. This not only increases the tax liabilities of non-compliant businesses but also undermines the financial stability of MSMEs, reinforcing the importance of timely payments in sustaining healthy business relationships.

Impact on Micro and Small Enterprises(MSEs)

Businesses operate through relationships with their suppliers and customers that get them the credit window. Most of the business to business (B2B) businesses manage their cash through rotation. They desire a maximum credit window with their supplier and a minimum credit period with their customers. While the ideal is a Cash & Carry deal, the businesses fall into the credit trap, and from a 7-15-30 days window of credit period, they end up in 60 days, or 90-day bucket and beyond. This hampers their purchase and sales cycle, profit margins and eventually the bottom line. The impact is high in highly competitive businesses and relatively less in monopolistic businesses, said Preeti Ubale, Co-Founder and Head Operations at SMBXL.

Hyderabad-based SMBXL (Small and Medium Business Excellence) is a software-as-a-service (SaaS) startup that provides technology and digital support to MSMEs.

The technology firm allows MSMEs to augment their business models and expand to newer markets and geographies and offers a range of customized business services to its customers through its technology platform – MarketCentral.

This rule has a direct impact on the cash flow of MSEs. Timely payments ensure that MSEs receive the funds they need to sustain their operations, pay their employees, and invest in their growth. By enforcing timely payments, governments aim to address the cash flow challenges faced by the SME sector and ensure their financial stability.

With this rule, the government is trying to ensure better cash flow for MSMEs who perennially struggle with delayed payments from larger customers which makes their cash flow positions difficult even as they struggle to win orders, execute projects, and manage their business, often with very thin profit margins. This is also intended to induce larger companies to demonstrate better fiscal and cash flow management responsibility. While the intent of the rule is beneficial to MSMEs and the broader ecosystem, its implementation may face challenges, said Srivatsan Sridhar, Founder and CEO, of Skydo, a cross-border payments platform. 

Bangalore-based Skydo is a fintech platform to streamline cross-border online transactions for small businesses.

Moreover, the 45-day payment rule enhances the credibility and trustworthiness of MSEs. Establishing a standard payment timeline, reduces the risk of non-payment or delayed payment, providing MSEs with greater confidence in conducting business transactions.

This increased trust can lead to stronger relationships with suppliers, customers, and other stakeholders, ultimately benefiting the growth and sustainability of MSMEs.

Micro, small, and medium enterprises (MSMEs) are often recognized as the backbone of the Indian economy. Contributing to nearly 27 percent of the country’s GDP, 42.67 percent of total exports, and 36 percent of India's manufacturing output, MSMEs serve as drivers for employment creation, export growth, and the development of the credit market within the nation.

Furthermore, MSMEs play a crucial role in alleviating regional disparities by serving as significant employers in rural and less developed areas of the country.

Benefits for MSMEs

The implementation of the 45-day MSME payment rule heralds a new era of opportunity for small businesses in India. With access to timely funds, MSMEs can invest in growth initiatives, expand their market presence, and create employment opportunities. Ultimately, the empowerment of MSMEs fuels economic growth and fosters a more inclusive business ecosystem in India.

“In sectors with long supply chains and lead times, especially those in manufacturing and exporting sectors, adhering to a 45-day payment window may significantly impact companies’ working capital. Presently, domestic payment terms typically are 90 days, while international cycles can stretch to over 150 days. The logistics involved in international shipping often result in extended transit times, with goods taking weeks to reach their destination. Additionally, overseas customers often force suppliers to store inventory nearby, inwarding parts into their company only on demand - the payment of this further delay due date recognition,” Sridhar said.

The Ministry of Micro, Small, and Medium Enterprises (MSME) has introduced the MSME Samadhaan Portal, aiming to simplify the process of filing applications under the Micro and Small Enterprises Facilitation Council (MSEFC).

This initiative enables MSE suppliers to submit online applications against buyers of goods/services directly to their respective State/UT MSEFC. The submissions are accessible to the MSEFC Council for necessary actions and are also visible to relevant Central Ministries, Departments, Central Public Sector Enterprises (CPSEs), State Governments, and other stakeholders for proactive interventions.

Challenges for Big Businesses

"While there is some apprehension among MSEs that larger corporations could end up cold-shouldering them due to the new 45-day rule, the overall impact of the 45-day payment rule could result in a lot of positives for the MSEs. A larger corporation that pays on time can become a reliable and trustworthy partner to MSEs, leading to long-term collaborations and more disciplined transactions. Timely payments will also strengthen the MSME's financial health, which means that they will be in a better space to negotiate with larger corporations. Better negotiations lead to faster dispute settlements, less legal hassles, and encourage more streamlined business practices," said Ubale, co-founder of SMBXL.

On its platform, SMBXL has over 64,000 customers, from over 900 towns and cities. These customers include traders, manufacturers, and distributors, across a wide spectrum of industries, including machine tools, retail stores, FMCG, textiles, electronics, leather goods, and catering companies.

Logistical complexities in tracking invoices, contractual disputes over payment terms, and the need for robust internal systems pose significant hurdles to timely payment compliance.

Logistical Complexities: Tracking invoices and ensuring timely payments can be challenging, especially for large corporations dealing with a high volume of transactions. Manual processes may lead to errors, delays, and difficulties in keeping track of payment deadlines.

Contractual Disputes: Disputes over payment terms and conditions can arise between MSMEs and large corporations, further complicating the payment process. These disputes may result from ambiguities in contracts, differing interpretations of terms, or disagreements over delivered goods/services.

Robust Internal Systems: Large corporations often have complex internal systems and processes that may not be optimized for prompt payment compliance. Implementing changes to these systems to accommodate the 45-day MSME payment rule may require significant investment in technology, training, and restructuring.

“The introduction of a 45-day payment rule may end up creating a few unintended challenges for MSMEs - large companies renegotiating contracts with their suppliers, forcing MSMEs to accept lower margins or absorb additional costs of complying with the rule, replacing existing suppliers with new ones, re-defining the payment event in myriad ways to circumvent the 45-day rule, and so on. There are also multiple question marks on the enforceability of this rule. The Trade receivables electronics discounting system (TReDS) launched by RBI recently might come in as a savior for MSMEs - this enables them to get competitive discounting rates to receive their invoice payments quickly, and this new 45-day payment rule might help this scheme see widespread adoption,” Sridhar commented.

Proactive Measures Required

Businesses need to take proactive measures to address these challenges effectively:

• Process Optimization: Streamlining invoicing, payment approval, and reconciliation processes can improve efficiency and reduce the likelihood of delays.
• Technology Adoption: Implementing automated invoicing and payment systems can help minimize errors, enhance transparency, and expedite payment processing.
• Enhanced Communication Channels: Establishing clear communication channels between MSMEs and large corporations is essential for resolving disputes, clarifying payment terms, and ensuring mutual understanding.
• Impact on Cash Flow: Delays in receiving payments from large corporations can have a significant impact on the cash flow of MSEs. According to a study by the Small Industries Development Bank of India (SIDBI), delayed payments are a major concern for MSMEs, affecting their ability to meet operational expenses and invest in growth opportunities.
• Compliance Costs: Ensuring compliance with the 45-day MSME payment rule may incur additional costs for large corporations, including investments in technology, staff training, and legal consultations to review and update contracts.
• Legal Ramifications: Failure to comply with the 45-day MSME payment rule can result in legal consequences, including penalties and reputational damage for non-compliant businesses. Large corporations need to prioritize compliance to avoid these risks.

Exemptions and Exceptions

While the 45-day MSME payment rule applies broadly to transactions between MSEs and large corporations, certain exemptions and exceptions exist. Traders, suppliers not registered under the Udyam portal, and medium-sized enterprises are exempt from the rule's purview. Additionally, opening balances as of April 1, 2023, are excluded from its scope, providing businesses with clarity on its applicability and implementation.

This table provides the classification of Micro, Small, and Medium Enterprises (MSMEs) applicable from 1st July 2020, based on composite criteria of investment in plant and machinery/equipment and annual turnover.

Preparing for Compliance

To ensure compliance with the 45-day MSME payment rule, businesses must proactively review outstanding dues to MSEs and prioritize timely payments within the specified deadlines.

• Review and Prioritize Payments: Regularly review outstanding dues to MSMEs and prioritize timely payments within the 45-day window.
• Update Accounting Systems: Implement system updates to track invoices and payment deadlines efficiently.
• Revise Contracts: Ensure contracts align with the 45-day payment terms, clarifying invoicing and penalty provisions if necessary.
• Emphasize Prompt Payments: Cultivate a culture of prompt payments within the organization through awareness, training, and accountability measures.
• Utilize Technology Solutions: Leverage digital payment platforms and automated invoice tracking systems to streamline payment processes.
• Integrate with Supply Chain Management: Integrate payment processes with supply chain management systems to prioritize MSME payments.
• Monitor and Report Compliance: Establish monitoring mechanisms to track compliance, address gaps, and demonstrate commitment to timely payments.

Conclusion

MSMEs play a crucial role in the economy by contributing to job creation, fostering innovation, and promoting sustainability. Their agility, adaptability, and ability to foster local entrepreneurship make them key drivers of economic growth and competitiveness.

However, MSMEs face numerous challenges that hinder their growth and sustainability, including limited access to finance, markets, and skilled talent. Governments have implemented various initiatives to support MSMEs, including financial incentives, access to markets, and legal frameworks.

By providing the necessary support, resources, and opportunities, one can create an inclusive and competitive business environment that fosters the growth and success of MSMEs, ultimately leading to sustainable economic growth for all.

The new rule is expected to increase the confidence of MSEs to invest more in their
businesses, said Ubale. "MSEs are also expected to focus more on innovation and productivity. Delayed payments cause financial burdens. MSEs may spend time and effort on developing new products, services, or processes. This is a boon to competition in the market. Consistent cash flows lead to stability that promotes further expansion, whether in new markets, via increasing production, or diversifying their product offerings. Improved creditworthiness also increases credit access for MSEs, and supplies them with working capital."

The 45-day MSME payment rule represents a transformative step towards bolstering the financial resilience and operational efficiency of small businesses. By navigating the challenges and leveraging the opportunities presented by this regulation, businesses can contribute to a more inclusive and sustainable business ecosystem, driving economic prosperity across India.

FAQs

What is the 45-day MSME payment rule?

The 45-day MSME payment rule is a regulation in India that mandates large companies to clear payments to Micro and Small Enterprises within 45 days of receiving goods or services, or within 15 days if there is no written agreement.

Why was the 45-day MSME payment rule implemented?

The rule was implemented to address the challenges faced by MSMEs due to delayed payments from large corporations. Timely payments help MSMEs maintain financial stability and operational efficiency, contributing to India's economic growth.

What are the consequences of non-compliance with the 45-day MSME payment rule?

Non-compliance with the payment deadlines outlined in the rule can result in tax implications for businesses. Corporations failing to adhere to the timelines may be required to pay tax on the outstanding amount, leading to increased tax liabilities and potential financial instability for MSMEs.