The release of Draft Form 26 under the Draft Income-tax Rules, 2026 marks one of the most significant reforms in India’s tax audit architecture. Prescribed under Section 63 of the Income-tax Act, 2025, the form is designed to serve as the audit report and statement of particulars for specified taxpayers engaged in business or profession.

However, Draft Form 26 is not merely a revised version of the existing Form 3CD. It represents a complete redesign of tax audit philosophy — transforming the audit from a book-to-tax reconciliation exercise into a comprehensive compliance validation framework that integrates accounting standards, digital infrastructure, international taxation, transaction surveillance, and cross-tax data alignment.

Legislative Intent and Policy Direction

Section 63 of the Income-tax Act, 2025 mandates audit reporting for prescribed categories of taxpayers. Draft Form 26 operationalizes this mandate through a data-intensive and structured reporting mechanism.

The policy direction is clear: tax audit is no longer limited to identifying disallowances or verifying profit computation. It now functions as a full-spectrum compliance certification tool covering:

• Digital accounting systems and data localization
• Income Computation and Disclosure Standards (ICDS) adjustments
• Global tax risk and transfer pricing reporting
• TDS/TCS analytics
• Financial transaction monitoring
• GST and indirect tax reconciliation

The design of the form suggests integration with AI-driven scrutiny systems, enabling automated risk detection and data cross-verification across departments.

Structural Design of Draft Form 26

The form is divided into four principal parts:

This structure distinguishes between entities already subject to statutory audit (e.g., Companies Act) and those undergoing only tax audit. The bifurcation reduces duplication while ensuring accountability.

Part A: Standardized Identity and Classification Data

Part A captures foundational taxpayer details:

• Legal name and PAN
• Address with detailed geographic classification
• Status (individual, firm, company, trust, etc.)
• Residential status
• Contact details
• Relevant tax year

The structured and geo-coded format indicates backend integration with PAN analytics and cross-form data validation systems.

Part B: The Core Compliance Framework

Part B forms the backbone of Draft Form 26. It contains over 50 thematic reporting clauses organized into structured schedules.

1. Business Profile and Structural Changes

The auditor must disclose:

• Applicable audit trigger clause
• Adoption of special taxation regimes
• Changes in partners, members, or shareholding
• Change in nature of business
• Cost audit applicability
• Comparative turnover ratios

This enables year-on-year risk profiling.

2. Books of Account and Digital Infrastructure

One of the most significant additions is digital governance reporting. The form requires disclosure of:

• Books maintained (manual/digital)
• Accounting software details
• Cloud storage information
• IP address and country of data hosting
• Backup server compliance
• Location of Indian data backup

Tax audit now extends into IT system validation and data localization compliance — moving toward forensic audit capability.

3. Method of Accounting and ICDS Adjustments

The auditor must certify:

• Cash or mercantile system
• Changes in accounting method
• Inventory valuation methodology
• Deviations from statutory norms
• ICDS I to X adjustments with detailed impact schedules

ICDS reporting is no longer peripheral — it is central to computation transparency.

4. Income Taxable but Not Credited to Profit & Loss

The form mandates reporting of incomes taxable under the Act but not reflected in the P&L, including:

• Deemed dividends
• Buyback income
• Subsidies
• Forfeited advances
• Business trust distributions
• Compensation interest

This reduces omission risk of non-operational taxable income.

5. Capital and Property Transactions

Auditors must report:

• Conversion of capital asset into stock-in-trade
• Property transfers below stamp duty valuation
• Income under negotiable instrument provisions

This expands tax audit coverage into capital gains risk detection.

6. Structured Expense Disallowance Matrix

Draft Form 26 reorganizes expense reporting into statute-mapped disallowance blocks covering:

• Employer contributions
• Bonus and commission
• Provisions
• Bad debts
• Capital expenditure
• CSR expenses
• Penalties and prohibited expenses
• Related party payments
• MSME interest disallowance
• TDS-linked disallowances

The tagging system enables automated mismatch detection.

7. Depreciation, Losses and Credit Tracking

The form requires:

• Block-wise depreciation schedules
• Additional depreciation computation
• Capital gains adjustments within block
• Brought forward loss continuity
• Speculation loss tracking
• MAT/AMT credit utilization

The depreciation format mirrors income tax return schedules, ensuring system alignment.

8. International Taxation and BEPS Monitoring

Global compliance reporting includes:

• Transfer pricing primary adjustments
• Excess money repatriation tracking
• Thin capitalization computations
• Remittances reporting

This integrates BEPS-aligned monitoring into routine tax audit.

9. Financial Transaction Surveillance

Auditors must report:

• Loans and deposits beyond prescribed limits
• Cash receipt/payment violations
• Specified financial transactions (SFT)
• Unquoted share transfers
• Deemed dividend loan reporting

Tax audit becomes a financial integrity verification instrument.

10. TDS and TCS Analytics

The reporting moves beyond summary disclosure to granular analytics:

• Payments liable for deduction
• Short or non-deduction
• Late deposit interest
• Disallowances
• Statement filing compliance

This supports end-to-end TDS compliance validation.

11. GST and Indirect Tax Integration

The form bridges direct and indirect tax systems by requiring:

• GST registration numbers
• Vendor classification (registered/unregistered)
• Composition scheme suppliers
• Exempt supply identification

Cross-tax triangulation becomes embedded within tax audit.

12. Quantitative Details for Manufacturing and Trading Units

Mandatory reporting includes:

• Opening and closing stock
• Purchases and sales
• Raw material consumption
• Production yield percentage
• Shortage or excess reporting

This strengthens stock-based profit suppression detection.

Auditor Certification: Parts C and D

Two alternate certification formats apply depending on statutory audit applicability. Both require:

• Confirmation of audit procedures
• Clause-wise qualification tagging (1–53)
• Disclosure of reliance on management representation
• Identification of areas not verified

Auditor accountability is significantly heightened.

Draft Form 26 vs Form 3CD: A Conceptual Shift

Draft Form 26 is not a renumbered 3CD. It is a redesigned compliance architecture.

In effect, Draft Form 26 = Form 3CD + systems audit + global tax risk reporting + transaction surveillance + indirect tax mapping.

Practical Audit Checklist for Professionals

Chartered Accountants must re-engineer their audit approach.

Pre-Audit Planning

• Obtain ERP and software details
• Identify cloud storage location
• Review special tax regime options
• Assess ICDS applicability

Systems Verification

• Verify books maintained
• Confirm audit trail functionality
• Validate backup server compliance

Income and Capital Review

• Identify taxable income not in P&L
• Review property transactions
• Examine capital asset conversions

Expense Scrutiny

• Statutory tagging of disallowances
• CSR verification
• MSME interest review
• Related party payments analysis

Depreciation & Loss

• Reconcile WDV with prior year
• Verify additional depreciation
• Validate loss carry forward continuity

International & TDS Review

• Review TP adjustments
• Verify interest limitation
• Reconcile TDS ledger and returns

GST & Financial Transactions

• Map vendor GST status
• Verify loan/deposit compliance
• Check cash transaction thresholds

The audit becomes multi-disciplinary — blending tax, accounting, IT systems, and regulatory compliance.

Impact Analysis: MSMEs vs Large Corporates

MSMEs

Challenges:

• Limited ERP sophistication
• Cloud and server reporting complexity
• Quantitative stock disclosures
• TDS and GST reconciliation capability
• Increased audit costs

Risk of audit qualifications may rise significantly.

Likely outcome: Greater reliance on outsourced digital compliance systems.

Large Corporates

Strengths:

• Established ERP infrastructure
• Dedicated compliance teams
• Experience in transfer pricing and global reporting

New exposure areas:

• Thin capitalization disclosures
• Primary adjustment repatriation
• Clause-wise qualification tagging

Integration between finance, tax, IT, and legal teams will intensify.

Comparative Snapshot

The Larger Transformation

Draft Form 26 represents a philosophical transition:

From verifying profit to validate tax behaviour, financial integrity, and system reliability.

Tax audit is evolving toward:

• Forensic accounting
• Systems audit
• Regulatory compliance certification
• AI-compatible structured data reporting

The future tax auditor must now combine expertise in:

• Accounting
• Tax law
• ICDS
• IT systems and data governance
• International taxation

Draft Form 26 is not merely a new reporting format. It marks the beginning of a new compliance era in India’s tax administration — data-driven, technology-integrated, and risk-oriented.