Govt weighs interest, penalty to make MSME clients pay up dues on time

The MSME and finance ministries are discussing amendments to the Micro, Small and Medium Enterprises Development (MSMED) Act, 2006, to enforce automatic interest accrual after payments remain overdue beyond the 45-day period, as verified through the UDYAM portal, unless the contract specifies a longer period, one of the two people said.

"Another proposal is to penalize non-compliance with a levy amounting to 2% of large buyers' turnovers," the person added.

Currently, the penalty and interest accrual only come into effect after an MSME files a complaint about the payment delay.

The current system

Delayed payments to MSMEs—which account for around 30% of India’s gross domestic product (GDP) and 45% of total exports—amount to about ₹9 trillion annually, according to government data. There are around 71.4 million registered MSMEs in the country.

To be sure, an MSME payment pending for more than 45 days since delivery and invoicing is considered delayed in the country. Under the MSMED Act, buyers are required to clear invoices within 45 days or face compound interest charges at three times the Reserve Bank of India (RBI) rate.

The Finance Act 2023 has also introduced a new tax rule: Starting 1 April 2024, expenses for payments delayed beyond 45 days to MSME suppliers will be disallowed under Section 43B(h) in that particular fiscal year, thereby increasing the taxable income for the businesses.

In terms of regulatory measures, the government is considering introducing mandatory ageing analysis reporting in corporate filings, disclosing payment days and interest paid to MSMEs quarterly, and imposing compensation per invoice, in line with global standards, in cases where the seller is a micro or a small business, said the second person.

Ageing analysis is an accounting method that categorizes outstanding invoices by the length of time they have been unpaid.

Both the ministries are expected to meet and discuss the issue and the proposals in the ongoing week, the second person added.

Queries emailed to the Union ministries of MSME and Finance remained unanswered until press time.

The global benchmark

Several global regulations and standards, including those in the Netherlands, the European Union, and the UK, are being studied to streamline the Indian MSME payments.

In the Netherlands, a statutory maximum 30-day payment term is enforced after large companies and government entities receive invoices from MSMEs, with no exceptions for buyers, giving these businesses strong legal protection. Similarly, the 2024-25 late payment regulation introduced a 30-day maximum payment term for all business-to-business transactions, disallowing any term exceeding 30 days. A late payment triggers mandatory interest plus a compensation of €40-80 per invoice.

“Efforts have been made to resolve the issues of delayed payments, but MSMEs still witness delays in payments even from several large businesses. In the case of infrastructure projects, delays can go up to 180 days, which affects the cash flow and working capital requirements of these businesses. MSMEs' cost of capital may inflate by 20-30% as they need to borrow at a higher interest to bridge the cash-flow gap," said Vinod Kumar, president, not-for-profit body India SME Forum.

He added that, as MSMEs pay GST upfront and also bear penalties in case of delay in paying GST, there must be ways to ensure that buyers pay GST to MSMEs immediately after receiving invoices.

The vexing issue

Rajgopal J.K., managing director of Tamil Nadu-based metals and chemicals manufacturer Dr JRK Research and Pharmaceuticals, said that they have experienced inordinate delays—minimum 5 to 6 months—in payments from state government-run establishments for supplies against tenders, “despite ardent follow-ups".

“Further, in respect of e-commerce sites, there are many things that impair working capital. Settlements do not come in full and are paid after retaining some balances or holding a portion of it. Settlement of these balances is arbitrary and random, resulting in huge efforts in multiple accounting for a small transaction," he added.

Surendra Bajaj, a Jaipur-based supplier to power utilities, also highlighted the same issue. “At present, we are supplying to Rajasthan discoms and getting payments from them in four to six months on average. This has badly hit our business. On the other hand, we are forced to pay penalties even for a day's delay."

Some of the recent efforts to ease the situation include setting up a delayed payment monitoring system—MSME Samadhan—that helps small businesses file claims digitally, monitor their cases, and recover their dues from large firms, governments, and public sector undertakings.

Mint reported on 23 September that the government is exploring a plan for the Centre to have powers to empanel private online dispute resolution (ODR) firms to resolve cases of delayed payments.

According to Section 18 of the MSMED Act, the Micro and Small Enterprises Facilitation Council (MSEFC) established by a state government has the power to either handle the delayed payment dispute itself or refer the matter to an institution that provides alternative dispute resolution (ADR) services. In such cases, they can empanel private institutions to resolve disputes.

MSEFCs were introduced in 2017, with the aim of hearing MSME applications for delayed payments, assessing them, and attempting to resolve disputes between buyers and suppliers through out-of-court resolution methods such as arbitration, mediation, or conciliation.

However, these bodies have not been as effective as envisaged. Mint reported on 23 April that MSMEs were increasingly opting for litigation in courts to get respite from delayed payments, and that MSEFCs did not have sufficient power to compel large businesses to pay bills on time.