How to Show F&O Loss in Income Tax Return?

Regarding financial compliance in India, it is inevitable to correctly report F&O losses in the ITR (Income Tax Return). There is a growing popularity of trading in derivatives and futures. So, it is imperative to understand the taxation regulations regarding such transactions. Those taxpayers who are salaried but are trading in F&O may miss out on declaring F&O losses in their tax returns. If all the sources of income are not stated, the tax department may send a notice mentioning non-compliance. To avoid such hassles, staying informed about the process to claim F&O losses in your ITR is essential. Let’s first get familiar with the meaning of F&O and then understand how to show F&O loss in ITR.

What is Futures and Options or F&O?

Futures and Options (F&O) serve as financial instruments, allowing investors to purchase or sell assets at a fixed price and time in the future. In India, Futures and Options serve as a means to hedge against market volatility.

The futures contracts focus on purchasing or selling an asset at a future date. On the other hand, options contracts entitle the right to buy or sell an asset. Note that options provide the right, not the obligation, for purchasing or selling an investment.

F&O trading comes with risks like substantial losses and market volatility. But it also facilitates opportunities for noteworthy rewards, i.e., it allows you to gain profit from rising and declining markets. Before getting into F&O trading, investors must carefully evaluate their risk tolerance and market dynamics.

What is F&O Trading?

Futures & Options Trading involves trading in derivative instruments depending on an underlying asset at a fixed price. This underlying asset could be currency, commodity, or equity shares.

In Futures, the trader purchases or sells a contract at a set price and a set date in the future. On the other hand, in Options, the buyer has the right, not the obligation, to purchase or sell, enabling them to cancel the contract if it incurs a loss. The seller should continue the contract if the buyer uses their option. Remember that futures and options traders should file their income tax return on the income generated.

Benefits of Declaring Your F&O Loss

There are various advantages to specifying your F&O loss when submitting your ITR. Let’s go through some key benefits.

i. Tax Deduction

One of the critical benefits of showing your F&O loss is that it allows you to deduct it from other revenues you have earned. So, a loss incurred on an F&O trade is deductible from any income except your salary. The income can be a business/profession, earnings from a home, or other sources. Essentially, it reduces your total tax liability.

ii. Tax Adherence

If you declare your F&O losses, you conform to the income tax legislation. It also implies that your financial transactions are correctly reported. Not revealing the loss can lead to penalties and legal complications.

iii. Carry Forward of Losses

Suppose your F&O losses surpass your income in a particular financial year. In such a case, you can carry the corresponding losses to upcoming years. Such losses can be set off against F&O earnings and business income in the subsequent 8 years. Consequently, your tax liability will be reduced in those years.

What is the Tax Treatment for F&O Profits or Losses?

Section 43(5) of the Income Tax Act classifies Futures and Options (F&O) trading as non-speculative transactions. It implies that any income earned from F&O trading is identical to business income for taxation.

As per section 44AB, if a taxpayer’s turnover exceeds Rs. 1 Crore, he is liable for a tax audit.

The inability to maintain accounting records can incur penalties. Specifically, as per Section 271A, a penalty of Rs. 25,000 is levied for non-compliance. If your financial transactions are not audited in compliance with 44AB, you may be subjected to a penalty of approx. Rs. 1.5 Lac, or 0.5% of your gross turnover, under Section 271B.

Note: You can opt for the presumptive scheme of taxation if your turnover does not exceed Rs.  3 Crore. 

How to Show F&O Loss in ITR?

The following considerations guide you on how to show F&O losses in your ITR:

• It is vital to determine the type of transaction. Since F&O trades are non-speculative, you must filter out F&O transactions from other transactions (like intraday).
• Calculate the net loss or profit incurred from all F&O transactions during the fiscal year.
• Make sure to fill out the applicable ITR form. In F&O trading, ITR-3 is used. ITR-3 comes with a provision (Part B - TI) that allows you to report speculative income. You must report F&O losses below "Income from Business or Profession."
• Mention the proper business code for F&O trading. Usually, the F&O code is 14013.
• Specify accurate information (in relevant columns) about your F&O transactions, including losses, profits, and turnover.
• If F&O losses aren’t offset against other income in the existing year, you can carry forward the same for eight assessment years. Don’t forget to comply with the rules for carrying forward losses.
• Maintain precise records of all your F&O transactions, like bank statements, contract notes, and other relevant documentation. The reason is tax professionals may ask for these records for verification.
• If your F&O trading turnover exceeds the set limit, there may be tax audit liability. In such cases, you must get an audit report from a reliable chartered accountant.
• Make sure to file your ITR before the mentioned deadline to avoid fines.

Which ITR Form Should Be Filed While Reporting F&O Income?

When selecting the ITR form to be filled out to report your F&O income, you must consider various factors. These factors include your income source, type of transactions, and residential status. Generally, for F&O trading, you must file either ITR-3 or ITR-4 (based on your eligibility).

How is F&O Turnover Calculated?

It is imperative to determine F&O turnover to evaluate whether a tax audit is mandatory.

Here’s the formula to calculate turnover for F&O trading:

Turnover for F&O Trading = Absolute Profit (addition of loss and profit incurred on different transactions during the whole financial year)

In the above formula, Absolute Profit is the sum of negative and positive differences.

F&O turnover calculation provides clarity on trading activity. It also assists you in determining whether you fulfil the turnover thresholds that lead to a tax audit requirement. 

Who is Eligible for an F&O Trading Tax Audit and Under What Circumstances?

The following instances clarify the eligibility criteria for an F&O trading tax audit.

i) Trading Turnover up to Rs. 3 Crore

If your trading turnover makes a 6% or higher profit, and you opt for presumptive taxation, you are exempted from a tax audit. However, a tax audit is vital if your profit is below 6% of your trading turnover or you incurred a loss and your income is within the exemption limit.

ii) Trading Turnover in the Range of Rs. 3 Crore - 10 Crore

A tax audit is vital if your profit is below 6% of your trading turnover or you incurred a loss. However, a tax audit will be implied if the profit exceeds 6% of your trading turnover and you didn’t choose presumptive tax.

Suppose you opted for presumptive tax; your profit equals or surpasses 6% of trading turnover. In such a case, you are fully exempted from a tax audit.

iii) Trading Turnover Exceeding Rs. 10 Crore

Irrespective of profit or loss, a tax audit is compulsory in all scenarios.

Which Expenses are Deductible from Futures and Options Income?

Business expenses are deductible from F&O income. Remember that only those business expenses solely and directly related to F&O trading practices are qualified for deduction.

The following expenses can be claimed, although you incurred a loss from F&O:

• Broker’s commission
• Telephone bills
• Consultation charges
• Subscription to trading-related journals
• Internet expenses

Note: Cash expenses above Rs. 10,000 are not allowed to be deducted.

Conclusion

F&O loss is unfortunate, but you can benefit from it when filing your ITR. An understanding of how to claim F&O losses is vital. It lets you deduct it from other income sources to decrease your overall tax obligations. Moreover, you can deduct some direct expenses encountered during trading. Stay abreast of the latest tax provisions and threshold limits specified in the Income Tax Act.

Related Articles:
F&O Taxation in India: Everything an F&O Trader Should Know About Return Filing