Budget 2007-08 has dealt a body blow to a host of self-employed professionals like architects, engineers, accountants, advertising, etc. The rate of tax deduction at source (TDS) has been doubled from the earlier 5% to 10% for these professionals.

This means that a professional who gets Rs 2 lakh as his fees will now have to shell out Rs 20,000 with the increase in the rate of withholding tax. Most professionals undertake several business expenses for which they claim tax breaks and these are set off against the TDS that they pay.

A higher rate of TDS will mean that they will first pay higher tax and then claim tax refund at the end of the year. Notwithstanding the governments attempts to speed up the tax refund process, in several cases, it takes a long time for the refund to come. This could create cash flow and working capital problems for professionals, a large number of whom operate on low capital.

While this TDS rate hike will be a body blow for legitimate professionals, it will check the growing trend of regular employees on the rolls of an organisation turning themselves into consultants to avail of the lower TDS rate. A higher TDS rate on a lump-sum amount will make this option less attractive.

According to the amended Section 194J of the Income Tax Act, 1961, if the fee for professional or technical service contract undertaken by any of these professionals is more than Rs 20,000, the contract awardee will have to deduct tax at the rate of 10%. The provision covers lawyers, engineers, doctors, architects, interior decorators, accountants and those working in areas of advertising and broadcasting.

Interestingly, while the government has increased the TDS rate, it has not increased the threshold limit of Rs 20,000, which is the limit for deducting TDS for a professional. This will result in cash flow issues for technical and professionals service providers. In fact, to provide relief to small service providers, the exemption limit should have been increased, said KPMG director Vikas Vasal.

The demand to raise the threshold for TDS has come from all quarters. The last tinkering in the threshold was carried out in 1994. In last 13 years, the economy has witnessed huge growth, and values of contracts have grown accordingly. Instead of tinkering with the threshold limit, the government has chosen to raise the TDS rate. This comes even as it raised the limit in the case of interest income, an industry source said.