General
Income from derivative trades are taxed as business income.
Under Section 43(5), business income is categorized as speculative or non-speculative.
- Speculative business income: Income from intraday equity trading is considered as speculative.
- Non-speculative business income: Income from trading Futures and Options (F&O), both intraday and carry forward, are considered as a non-speculative business.
When do you need a tax audit?
When the trading turnover (refer below) from derivative trading exceeds ₹1 crore (Section 44AB) or if profits are less than 8% (6%, if all trades are digital) of the total trading turnover, and your other income is above taxable limit i.e., 250,000 or 3,00,000 or 5,00,000, as applicable, the accounts need to be audited by a practicing Chartered Accountant. Minance helps you do this.
How do you calculate your trading turnover?
For every trade, contract notes are issued by your broker which displays the value of assets bought or sold (for recording purpose only the difference between is used). Take this example:
- Divakar bought one lot of Maruti at 2.0 lakhs and sold it for 2.8 lakhs (Profit = ₹80,000)
- Divakar bought one lot of SBI at 3.5 lakhs and sold it for 3.00 lakhs (Loss= ₹50,000)
The turnover shall be calculated as ₹80,000 + ₹50,000 = ₹ 1,30,000. Also, any premium received when you’re writing an option must be added to the turnover value.
Maintenance of Books of Accounts
All transactions that are carried out need to be recorded. This includes buy/sell transactions, expenses like electricity bills, demat charges, phone bills, advisory fee etc. In case a trader is involved in multiple forms of trading in shares like intraday trading, F&O, investments in MFs, holding shares for more than twelve months from the date of purchase, the business income from each of these must be declared separately since the tax treatment differs based on the type of asset. The common expenses can be bifurcated depending on the proportion of time spent on the various types of trades.
Example of a Tax Computation
Let's say Divakar works for Minance and has earned a salary of ₹12 lakhs in FY 2018-19
Divakar opened a trading account with a brokerage firm by paying ₹5,000 as account opening charges. He has to pay 0.02% as brokerage charges for each F&O trade and paid a total of ₹20,000 as brokerage charges during the year. He also attended a workshop for F&O beginners and paid the organizers ₹10,000 for it.
Divakar has mobile expenses of ₹10,000 for the whole year and a review of his past bills indicates about 50% of his bill is towards his F&O trade (i.e. 5,000). His monthly internet bill is ₹1,000. He met a consultant who specializes in F&O and had a dinner worth ₹1,000 with him.
His total turnover is ₹1.2 crores and since he’s a horrible trader, his losses are ₹2 lakhs. Here’s what happened next:
- His F&O trades is treated as a business. He will have to file ITR-3 instead ITR-1 (form for income from salaries, house property, interest and other sources)[5] that he files normally
- Divakar can claim expenses of F&O from his income (or loss), which are directly related to F&O his trading
- Losses have tax benefits (they can be offset with certain other incomes and can be carry forwarded for 8 succeeding years)
- Since Divakar's turnover is more than ₹1 crore, he must get an audit done from his CA. He also has to maintain books of accounts for his trading activities.
Table 1: List of expenses incurred for F&O trading by Divakar.
| Expenses of F&O Business | |
|---|---|
| Account opening charges | 5,000 |
| Brokerage | 20,000 |
| Advisory fees | 10,000 |
| Mobile Expenses | 5,000 |
| Broadband Expenses | 12,000 |
| Meals Expenses | 1,000 |
| Total | 53,000 |
Table 2: Net income from Divakar's F&O trading business. Remember he made a loss of ₹2 lakhs because he is a horrible trader? That’s the first item. The second item is the net expenses brought forward from the grand total of Table 1.
| Income / (Loss) of F&O Business | |
|---|---|
| Loss from F&O | 200,000 |
| F&O Expenses | 53,000 |
| Total | 253,000 |
Table 3: F&O trading is considered as a non-speculative business, can be set off with other incomes such as rental income, interest income. Any loss which is unadjusted here (the ₹33,000 portion) can be carried forward to 8 succeeding years. In these 8 years it can only be set off against non-speculative business income.
| Total Taxable Income | |
|---|---|
| Salary Income (A) | 1,200,000 |
| Rental Income (B) | 200,000 |
| Interest income (C) | 20,000 |
| Non- Speculative Business Income (D) | (253,000) |
| Total Taxable Income* (A) | 1,200,000 |
| Business Loss to be carried over (B+C+D) | (33,000) |
*F&O trading loss cannot be set off with salary income.
Treatment of losses from the F&O trading business and how it affects tax liability?
Reporting losses can help you bring down the tax liability. Since F&O trading is counted as a non-speculative business, loss from F&O trading is allowed to be adjusted against income from any other source (except salary income).
Note: Losses from a speculative business such as day trading cannot be set off against any income other than income from a speculative business.
If the loss still couldn't be adjusted fully in the year in which it was incurred, the unadjusted loss can be carried forward for next eight years immediately succeeding the year in which it was incurred and be set off only against the head Profit and Gains of Business and Profession for non-speculative business.
Consequences of non-compliance
If any taxpayer who is required to get tax audit done but fails to do so, the lower of 0.5% of total sales, turnover, or gross receipts, or ₹1,50,000 may be levied as penalty.
References:
The Income Tax Act, 1961