MSME in India: Definition, Criteria, and Comparison with SMEs

Micro, Small, and Medium Enterprises (MSME) are the backbone of India’s economy, contributing significantly to GDP, exports, and employment. Understanding the criteria that define MSMEs and how they compare with Small and Medium Enterprises (SMEs) in the global context is vital for policymakers, entrepreneurs, and investors.

Definition of MSME in India

The Ministry of Micro, Small, and Medium Enterprises, Government of India, defines MSMEs under the Micro, Small and Medium Enterprises Development (MSMED) Act, 2006. The criteria to classify enterprises into micro, small, and medium categories were revised on July 1, 2020, to include both investment in plant and machinery and annual turnover as parameters.

Current MSME Classification

The inclusion of turnover as a criterion aligns with global practices and reflects the scale of an enterprise more effectively.

Benefits of MSME Registration

• Financial Assistance: Easy access to loans and lower interest rates.
• Government Schemes: Priority in government tenders, subsidies, and tax rebates.
• Export Support: Various incentives and concessions for export-oriented units.
• Reduced Compliance: Simplified procedures and reduced regulatory burden.

MSME vs. SME: A Global Perspective

While the term MSME is specific to India, SMEs are a globally recognized category. The key difference lies in the classification criteria and scale of operations.

Examples of SME Definitions Globally

• European Union: SMEs are classified based on the following thresholds:
• Micro: Fewer than 10 employees and €2 million turnover.
• Small: Fewer than 50 employees and €10 million turnover.
• Medium: Fewer than 250 employees and €50 million turnover.
• United States: Defined by the Small Business Administration (SBA) using industry-specific size standards, typically fewer than 500 employees.

Key Challenges for MSMEs in India

• Access to Credit: Despite government schemes, many MSMEs face difficulties in securing loans.
• Technology Adoption: Limited resources hinder technological advancements.
• Market Competition: Intense competition from larger corporations and global SMEs.
• Compliance Burden: Adhering to GST and other regulatory requirements.
• Skill Development: Need for training and skill enhancement of the workforce.

Income Tax Benefits for MSMEs

Several provisions under the Income Tax Act, 1961, offer tax incentives to MSMEs:

• Presumptive Taxation Scheme (Section 44AD): MSMEs can opt for a presumptive taxation scheme under Section 44AD of the Income Tax Act. This allows eligible businesses with turnover up to INR 2 crore to declare 8% of their total turnover as their taxable income. This reduces the compliance burden by eliminating the need for detailed accounting and tax audits. For digital payments, the presumptive income rate is increased to 6%.
• Presumptive Taxation for Professionals (Section 44ADA): Professionals (like doctors, chartered accountants, lawyers) with annual receipts of up to INR 50 lakh can also avail of presumptive taxation under Section 44ADA, allowing them to declare 50% of their receipts as income.
• Tax Rebate for MSMEs (Section 80JJAA): MSMEs can avail of a tax rebate under Section 80JJAA if they hire new employees. A 30% deduction on the additional wages paid to employees for three consecutive years is provided to eligible businesses.
• Lower Corporate Tax Rates: MSMEs are eligible for lower corporate tax rates under Section 115BAA, which provides a tax rate of 22% (plus surcharge and cess) to domestic companies, provided they do not claim deductions under certain sections.
• Incentive for Startups (Section 80-IAC): MSMEs engaged in innovative business activities and registered as startups with the Department for Promotion of Industry and Internal Trade (DPIIT) can avail of a 100% tax deduction on their profits for three consecutive years, provided their turnover does not exceed INR 100 crore.

Compliance Requirements for MSMEs

MSMEs, although granted several benefits, are still required to comply with certain tax obligations:

• Tax Audit (Section 44AB): If a business’s turnover exceeds INR 1 crore (INR 5 crore for businesses opting for digital payments), they must undergo a tax audit. However, MSMEs with turnover up to INR 2 crore opting for the presumptive taxation scheme under Section 44AD are exempted from this requirement.
• GST Registration: MSMEs must comply with Goods and Services Tax (GST) registration if their turnover exceeds the prescribed limits (INR 20 lakhs for service providers and INR 40 lakhs for goods suppliers). However, MSMEs with lower turnover can opt for the composition scheme, which offers simpler compliance.
• Filing of Income Tax Returns (ITR): MSMEs are required to file their income tax returns on time, ensuring compliance with the applicable tax laws and provisions. They must keep accurate financial records, particularly if not opting for the presumptive taxation scheme.

Deductions and Exemptions for MSMEs

MSMEs are eligible for various tax deductions under the Income Tax Act:

• Section 35AD – Capital Expenditure on Specific Projects: MSMEs investing in specific projects like setting up new units for manufacturing or production are eligible to claim a 100% deduction on capital expenditure under Section 35AD, subject to fulfilling certain conditions.
• Section 80C to 80U – Deductions for Individuals: MSME owners and employees can also avail of personal tax benefits like those under Section 80C for investments, Section 80D for insurance premiums, and other sections providing deductions for medical expenses, education, etc.
• Section 80G – Donations: MSMEs making donations to registered charitable institutions can claim a deduction under Section 80G, subject to conditions.

Special Provisions for MSME Payments

• Section 43B – Deduction for Payments to MSMEs: To encourage prompt payments to MSMEs, businesses making payments to MSMEs for goods or services received can claim a deduction under Section 43B only if such payments are made before the due date of filing the income tax return. This encourages timely settlement of dues and promotes a healthy business environment.

Financial Assistance and Subsidies for MSMEs

Although not directly related to tax provisions, the Indian government provides various financial schemes and incentives to support MSMEs, which can help improve their tax position:

• MUDRA Scheme: Provides low-interest loans to MSMEs for business expansion, equipment purchase, and working capital needs.
• Credit Guarantee Fund Scheme: Aimed at increasing credit flow to MSMEs, this scheme offers credit guarantee cover to financial institutions, reducing the risk for lenders.
• CGTMSE: The Credit Guarantee Fund Trust for Micro and Small Enterprises provides collateral-free loans to MSMEs.

Summary

MSMEs are integral to India’s economic growth, providing a crucial link in the supply chain and fostering innovation. With government initiatives like the Atmanirbhar Bharat Abhiyan and Production Linked Incentive (PLI) schemes, MSMEs are being equipped to compete globally. However, addressing challenges related to financing, technology, and skill development is essential for their sustained growth. Understanding the nuances between MSMEs and SMEs will help policymakers craft more targeted and effective support measures.

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