When you borrow or lend money without any collateral, the interest involved can come with a tax requirement known as TDS, which stands for Tax Deducted at Source. In this blog, we will walk through what TDS on interest for unsecured loans means, when it applies, who needs to deduct it, and the rates involved. We will also look at basic rules under the Income Tax Act and help you understand how this tax is calculated so you can avoid mistakes and stay compliant. Let's get started.
What is TDS on Interest on Unsecured Loans?
When someone lends money without asking for any collateral, it’s called an unsecured loan. Now, when interest is paid on that loan, the person paying the interest may have to deduct tax on it before handing it over to the lender. This is known as TDS or Tax Deducted at Source on interest. The idea is simple: a small part of the interest goes to the government upfront, and the rest reaches the lender. This helps in tracking income and making sure taxes are collected in time.
Understanding Section 194A of the Income Tax Act
Section 194A of the Income Tax Act focuses on “TDS on interest other than interest on securities.” This section comes into play when interest is earned from sources like bank deposits, fixed deposits, recurring deposits, unsecured loans, and even interest from NBFCs (non-banking financial companies). Basically, if you’re earning interest that doesn’t come from government or corporate bonds, this section likely applies to you.
The section states that if the total interest paid during a financial year crosses a certain limit (which depends on the type of payer), then TDS must be deducted at the time of payment or credit, whichever is earlier. For example, banks usually deduct TDS if the interest exceeds ₹40,000 in a year (₹50,000 for senior citizens), while companies or individuals paying interest on loans must follow similar rules depending on their role and the amount paid.
Role of Lenders and Payers
In this setup, the responsibility to deduct TDS lies with the person or entity paying the interest. It could be a bank, a company, or even an individual if they are covered under tax audit rules. The payer has to:
- Deduct TDS at the prescribed rate (usually 10 percent)
- Deposit it with the government
- Provide a TDS certificate (Form 16A) to the lender or recipient of interest
The lender, or person receiving the interest, can claim this TDS amount while filing their income tax return. It acts as a credit against their total tax liability. Keeping records of these deductions helps in avoiding any mismatch during tax filing.
Who Is Responsible for Deducting TDS on Unsecured Loan Interest?
TDS on unsecured loan interest has to be deducted by the person or organisation that pays the interest. This can be an individual, a Hindu Undivided Family, a partnership firm, or a company. The only exception is for those who were not required to get their accounts audited in the previous year. If the interest paid crosses the set limit, the payer must deduct TDS and deposit it with the government within the given deadline.
When is TDS Applicable on Interest from an Unsecured Loan?
Here are the main situations where TDS becomes applicable:
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When the Interest is Credited
TDS needs to be deducted as soon as the interest is recorded in the lender's account, even if the money hasn’t been actually paid. Just crediting the interest as "payable" triggers the need for TDS. So, even if the borrower hasn’t transferred the funds yet, the tax has to be calculated and deducted on that credited amount.
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When the Interest is Paid
TDS also applies when the interest payment is made. It doesn’t matter if the payment is done through cash, cheque, bank transfer, or any other method. Once the money is paid out, TDS has to be deducted and reported accordingly.
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When a Business or Organization Makes the Payment
If a business or a company is paying the interest, they are responsible for deducting TDS and submitting it to the government on time. Even if the interest isn’t shown in the books yet, as long as the payment is made, TDS has to be taken care of. This ensures that interest earned through loans is also taxed, not just the returns from shares or bonds.
Rate of TDS and Thresholds on Interest Income
When someone receives interest income (other than interest on securities), tax is usually deducted at source. This is covered under Section 194A of the Income Tax Act. If the recipient has provided a valid PAN, the standard TDS rate is 10%. This means the payer, such as a bank or company, will deduct 10% of the interest amount as tax before paying it to the recipient.
What if PAN is Not Provided?
If the recipient fails to provide a valid PAN, the tax deduction becomes much higher. In most cases, the TDS rate increases to 20%. This higher rate serves as a penalty and is meant to encourage individuals to keep their PAN details updated with their bank or financial institution.
Special Cases and Thresholds
There are some situations where TDS may not be deducted, especially when the interest amount is small. For instance, if the payer is a bank, a co-operative society involved in banking, or a post office, and the interest paid during the financial year does not cross a certain limit, then TDS is not applicable.
Starting from 1 April 2025, the thresholds are proposed to change as follows:
- For senior citizens, the threshold is ₹1,00,000
- For others, the threshold is ₹50,000
If the interest is being paid by other entities (not a bank, co-operative society, or post office), then the TDS threshold from 1 April 2025 will be ₹10,000. This means if the total interest stays below ₹10,000 in a financial year, TDS will not be deducted.
Exemptions through Form 15G and Form 15H
In certain cases, individuals can avoid TDS even if their interest income crosses the threshold. If their total income is below the taxable limit, they can submit a self-declaration using Form 15G (for individuals below 60 years) or Form 15H (for senior citizens). Once these forms are submitted and accepted, TDS may not be deducted at all.
Other Exemptions
Interest on Loans Given to Charitable or Educational Institutions
Some institutions such as charitable trusts, religious organisations, and educational bodies may also qualify for TDS exemption. This usually applies when their income is fully exempt under Section 10 of the Income Tax Act. In such cases, the person or entity paying the interest can skip TDS deduction, but they must confirm that the receiving institution is indeed eligible. It’s common for payers to ask for supporting documents or a copy of the government-issued approval before deciding not to deduct tax. This helps avoid any issues during audits or reviews later on.
Exemptions for Certain Types of Lenders
Section 194A of the Income Tax Act lists a few lenders and institutions that do not have to deduct TDS on interest payments. This includes scheduled banks, co-operative banks, LIC, UTI, and insurance companies. These organisations are already regulated by government bodies, so they are not required to follow the same TDS rules.
| Payment Scenario | Threshold / Limit | TDS Rate (with PAN) | TDS Rate (without PAN) |
|---|---|---|---|
| Interest on unsecured loan | ₹40,000 (general) / ₹50,000 (senior citizens) | 10% | 20% |
| Below threshold | No TDS required | - | - |
How to Calculate & Deduct TDS
Here’s how you can calculate and deduct TDS on interest:
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Find the Total Interest Payable in the Year
Start by calculating how much interest you will pay to the recipient over twelve months. This amount helps you check if the TDS rules apply.
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Check If Any Deductions Are Allowed
In most basic cases, there are no special deductions before TDS on interest. If a specific deduction applies in your situation, subtract it from the total interest.
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Compare With the Threshold Limit
If the interest payable crosses the threshold, you must deduct TDS. If it is below the limit, TDS is not required.
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Deduct TDS at the Correct Rate
The standard TDS rate on interest is 10 percent. If the recipient has not provided a PAN, the rate becomes 20 percent. Deduct the TDS at the time of paying or crediting the interest, whichever comes first.
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Deposit the TDS With the Government
After deducting TDS, you must deposit it with the government within the due date. Monthly due dates apply in most cases, except in March where the deadline is different. The payment must be made using the prescribed TDS challan.
Example of TDS Calculation
Imagine you are paying someone interest of ₹60,000 in a year.
- Interest payable in one year: ₹60,000
- Threshold: ₹40,000 (for most cases where TDS applies)
Since ₹60,000 is above the threshold, TDS needs to be deducted.
- TDS at 10 percent: 10 percent of ₹60,000 which is ₹6,000
- Net interest the recipient will receive: ₹54,000
- You must deposit ₹6,000 with the government.
If the recipient does not provide a PAN, the TDS rate becomes 20 percent.
In that case, TDS will be ₹12,000 and the net payout will be ₹48,000.
Late Deduction, Late Deposit, and Penalties
If TDS is not deducted on time, interest will be charged from the date it was supposed to be deducted. This increases the overall cost for the person responsible for the deduction.
If TDS is deducted but not deposited within the due date, additional interest applies for every month of delay. Continuous delays can lead to penalties and even disallowance of certain expenses during tax assessments.
Failing to file the TDS return or filing it late can also result in late fees and penalties. This is why deductors should stay updated on due dates and keep proper records of deductions and deposits.
Closing Thoughts
TDS on interest for unsecured loans may look complicated at first, but once you understand the rules, thresholds, and deadlines, it becomes much easier to handle. The main idea is to stay aware of when TDS applies, deduct it at the right time, and deposit it without delays. This helps you avoid extra charges and keeps your records clean during tax filing. Whether you are borrowing or lending, a little attention to these steps can save you from unnecessary stress later.
Frequently Asked Questions (FAQs)
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What is Section 194A and how does it apply to unsecured loans?
Section 194A deals with TDS on interest that is not related to securities. When you pay interest on an unsecured loan, you may need to deduct TDS before paying the lender. This helps the government track interest income and make sure taxes are collected on time.
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What is the threshold interest amount for TDS under Section 194A?
TDS applies only when the total interest paid in a year crosses the specified limit set by the Income Tax Department. If the interest stays below the threshold, TDS is not required.
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What rate of TDS applies if PAN is not available?
If the lender does not provide their PAN, the TDS rate becomes higher. This is done to prevent tax evasion and to encourage proper documentation.
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When should TDS on interest be deducted, on payment or on credit?
TDS should be deducted at the time the interest is credited to the lender's account or at the time it is paid. Whichever happens first is the point at which TDS must be deducted.
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Can a borrower get a TDS refund if their tax liability is lower?
Yes. If the lender’s total tax liability is lower than the TDS deducted, they can claim a refund while filing their income tax return.
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Does TDS apply on interest paid by individuals or firms as well?
Yes, TDS can apply to both individuals and firms depending on their category, their audit status, and the nature of the loan transaction.
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What happens if TDS is not deducted or deposited on time?
If TDS is missed or deposited late, penalties and interest may apply. The borrower may also face disallowance of expenses while calculating taxable income.
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Are there exemptions for certain categories such as small payments or trusts?
Yes. Section 194A includes specific exemptions for certain categories like small interest amounts, notified institutions, and some trusts. These exemptions depend on eligibility and documentation.
