Futures and Options (F&O) trading has become an integral part of the Indian financial markets, allowing traders to speculate on the future price movements of assets like stocks, commodities, currencies etc. However, F&O trading also comes with complex tax implications that need to be properly understood to ensure tax compliance and optimise liabilities.
Classification of F&O trading income
The income generated from F&O trading is categorised as non-speculative business income as per Indian tax laws. This is an important classification since speculative income has more restrictions in terms of the setoff of losses and carrying forward of losses to future years. Treating F&O trading as a non-speculative business activity allows traders to offset losses against other business income and carry forward any unadjusted losses for 8 subsequent assessment years.
Choosing the right ITR form
For salaried individuals who also trade in F&O, the appropriate Income Tax Return (ITR) form is crucial for proper reporting of trading income and claiming relevant deductions.
- ITR form 3 is applicable for individuals and HUFs having income under the head “Profits and gains of business or profession”. F&O trading income has to be reported in this section, along with deductions for expenses, brought forward business losses etc.
- ITR form 4 can be used by resident individuals & HUFs availing presumptive taxation schemes under section 44AD for calculating income at 8% of total turnover.
Computing turnover from F&O trading
Computing turnover from F&O trading activity is important to determine if a tax audit is applicable. Turnover is calculated by summing up the total of all positive and negative price differences on trading of futures and premiums received on options trading.
This turnover calculation helps in determining if the threshold of ₹1 crore under section 44AB has been crossed, which would mandate a tax audit.
Tax audit requirements
Section 44AB of the Income Tax Act governs tax audit requirements for all businesses based on turnover thresholds. For F&O traders, a tax audit becomes mandatory if:
- Annual turnover from F&O trading exceeds ₹1 crore
- Net profit from F&O trading is less than 6% of turnover and the trader has not opted for a presumptive taxation scheme under section 44AD for any of the 5 preceding years
In case a tax audit becomes applicable, the accounts have to be audited by a chartered accountant before the due date for filing ITR.
Securities transaction tax (STT)
Securities transaction tax (STT) is a direct tax payable on the purchase and sale of securities listed on recognised stock exchanges in India.
For F&O trades, the STT rates are:
- Options STT – 0.05% on the sale of options, 0.125% on the exercise of options
- Futures STT – 0.01% on the sale of futures, 0.02% on the sale of commodity futures
The upward revision in STT is aimed at reducing speculative trading in the derivatives market. However, it also increases the transaction costs for traders.
Deductible expenses
The business expenses incurred for F&O trading purposes can be deducted from total trading income to arrive at taxable business income.
- Depreciation on computers and other equipment used for trading
- Fees paid to brokers
- Advisory/consultancy charges related to trading
- Internet and telephone expenses
- Computer software subscription charges
- Rent for office space used for trading etc
However, expenses connected with earning exempt income or personal in nature are not allowed as deductions.
Set off and carry forward of losses
Any business loss arising from future and options trading can be set off against other heads of income except salary income in the same assessment year. For instance, F&O trading loss can be adjusted against income from house property, capital gains, or other business income. Unadjusted F&O trading loss can be carried forward to subsequent years for setoff against business profits up to 8 assessment years. However, setoff against salary income is not permitted.
Payment of advance tax
F&O traders with an estimated tax liability of more than ₹10,000 in a financial year have to discharge advance tax in 4 instalments – 15% by June 15, 45% by September 15, 75% by December 15 and 100% by March 15. This helps avoid interest on late payments under sections 234B and 234C.
Recent changes and impacts
The recent increase in STT rates aims to curb speculative trading by making transactions more costly. This change may particularly impact retail traders who have a demat account linked to their trading account, who engage in frequent trades with small margins. The government hopes these measures will encourage more cautious participation in the derivatives market
Conclusion
Understanding the nuances of the tax treatment of F&O trading income and expenses can help traders be tax compliant, avoid penalties, and optimise tax outgo. Maintaining meticulous accounts, choosing the right ITR form, timely tax audit, and availing deductions and advance tax payments are key focus areas. For personalised guidance, consulting a chartered accountant or tax expert is advisable. Proper tax planning and compliance can help traders enhance their overall returns from F&O trading activity.
Disclaimer: Trading F&O can be risky and may not be suitable for all investors. The risk of loss can be substantial. Information on the platform is for general market commentary and is not intended as investment advice.
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