Things to Keep in Mind While Disclosing Your F&O Income at the Time of Filing Taxes

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The number of F&O traders in India has ballooned significantly in recent years. In the short period from FY19 to FY21, the number of individual traders with unique accounts rose from 7.1 lakh to over 45 lakh. In the years since, this number has only increased.^[1] If you are among the lakhs of F&O traders in India, you need to be aware of how stock options trading taxes work in the country.

With the due date for filing income tax returns (ITRs) fast approaching, it is essential to understand the nuances of stock F&O taxes, so you can report your F&O gains and losses accurately. How is F&O income classified for the purpose of taxation? How is the income under this head calculated? And what ITR form should you use to report stock F&O taxes? We’ll answer these questions and more in this article.

How is F&O Income Classified Under the Income Tax Act?

To understand the finer points of stock options trading taxes, we need to begin at the basics and discuss the classification of F&O gains and income. The Income Tax Act outlines five heads of income — namely, salaried income, income from house property, business income, capital gains and income from other sources.

Section 43(5) of the Income Tax Act classifies gains and losses from F&O trading as business income. This means that if you traded in futures and options in any given financial year, you need to report the gains and/or losses from that activity under the head profits and gains from business or profession (PGBP) in your ITR.

Business income can further be classified into the following two categories, depending on the nature of the business activity.

• Speculative Income

Any income that is not realised until an uncertain future event occurs or fails to occur is considered speculative in nature. F&O trading does not belong to this category. However, gains from intraday trading in equity shares are classified as speculative income because such traders are not initiated with the aim of investing over the long term.

• Non-Speculative Income

The gains or losses from trades implemented in the derivatives segment are classified as non-speculative business income. This includes both intraday and other short-term trades. The rationale behind this is that derivatives are primarily used as hedging instruments rather than speculative securities. So, the gains are considered non-speculative.

How to Calculate F&O Turnover in Your ITR?

To accurately report your income in your tax returns, you should know how the futures and options turnover is calculated. It is on this turnover that stock F&O taxes will be levied. Earlier, the turnover from F&O trades was computed as the sum of the absolute profit and the premiums earned from options writing.

However, w.e.f AY23, the following formula is used to calculate F&O turnover:

Turnover from Futures and Options Trading = Absolute Profit From F&O Trades

The term ‘absolute profit’ refers to the profits and losses from your F&O trades. This simply means that losses are also added to the profits to find the total turnover. For example, suppose that you have the following trading results in the equity F&O segment in FY23.

• Total profits from F&O trades: 5,00,000
• Total losses from F&O trades: 2,10,000

Here, you may assume that to calculate the stock options trading taxes, the income from F&O trades may be the net of the profit and loss, i.e. Rs. 2,90,000. However, since the absolute profit is considered for the purpose of F&O taxation, the F&O turnover will be Rs. 7,10,000 (i.e. Rs. 5,00,000 + Rs. 2,10,000). You will have to pay stock F&O taxes after reporting this sum in the income tax return.

Important Things to Remember at the Time of Filing Your ITR

For individual assessees who are not subject to a tax audit, the due date for filing ITR is July 31 of the relevant assessment year. This means that by July 31, 2024, you will have to file your ITR for FY24. At this juncture, here are some crucial pointers that traders should be mindful of while disclosing their F&O income.

• The Choice of ITR:

As mentioned earlier, F&O income is classified as PGBP. So, if you have any F&O turnover to report during the assessment year, you need to choose ITR-3 for tax filing purposes. Before you submit the ITR, ensure that you pay the stock F&O taxes and other liabilities due.

• Carry Forward and Set Off of Losses:

Any excess loss from F&O trades can be carried forward for 8 assessment years. However, since it is classified as a non-speculative business loss, it can only be set off against other non-speculative income (excluding income from salaries).

• Deductions for Business Expenses:

Any business expenses incurred to earn the reported business income are deductible under the Act. This means you can claim expenses like brokerage fees, interest on loans availed for trading, electricity costs, internet charges etc. as a deduction from the total F&O turnover.

• Applicability of a Tax Audit:

If the F&O turnover exceeds Rs. 10 crore, a tax audit is mandatory. If it is between Rs. 2 crore and Rs. 10 crore, a tax audit is not mandatory as >95% of the transactions are digital. However, if you opt for presumptive taxation and report income less than 6% of the turnover, a tax audit is required.

Upcoming Union Budget 2024: What to Expect in F&O Taxation?

Although F&O turnover has been classified as a non-speculative business income, there is an increasing indication of mounting speculative activity in this market segment. Data has revealed that on average, Indian traders hold options for less than 30 minutes before exiting a position. This points to purely speculative activity.^[2] Furthermore, the vast majority of F&O traders are suffering huge losses, with around 90% of retail participants in this segment losing money in FY22 alone.

With the Union Budget scheduled for late July 2024, the market is abuzz with news that the government may be considering a reclassification of F&O turnover from non-speculative business income to speculative income — much like how lottery income and cryptocurrency gains are classified and taxed. There may also be a TDS provision imposed, as per reports.

Implications for F&O Traders

The potential reclassification of F&O income as speculative could have significant implications for traders. If implemented, this change would likely result in F&O gains being taxed at a higher flat rate rather than the current progressive tax slab system. This could lead to higher tax burdens for many traders, especially those in lower income brackets.

Moreover, such a reclassification would likely eliminate the ability to offset F&O gains against losses from other business activities. This could substantially increase the tax liability for traders who use F&O as part of a broader business strategy.

The introduction of TDS (Tax Deducted at Source) on F&O transactions would serve dual purposes. Firstly, it would provide the government with a more effective means of tracking market participants, potentially leading to improved regulatory oversight. Secondly, it could act as a deterrent to frequent trading, as traders would need to consider the immediate cash flow impact of TDS on each transaction.

Manage Your F&O Tax Liabilities with Effective Options Trading Strategies

Whether the taxation system for F&O turnover remains the same or changes after the budget, you can manage your stock F&O taxes better with the right options trading strategies. This is because strategies that improve profitability can help you earn more, thus increasing your pre and post-tax income.

To find strategies that work best for your market outlook, check out Options B.R.O on the Samco trading app. This advanced options strategy builder filters through 1000s of strategies to find the top 3 for your risk profile and market view. In addition to accessing the Samco trading app, opening a demat and trading account with Samco Securities also means you can enjoy the benefit of competitive Samco brokerage charges.

Notes:

^[1] https://economictimes.indiatimes.com/markets/options/retail-investors-participation-in-fo-trading-surges-due-to-quick-profit-potential-experts/articleshow/110634864.cms?from=mdr

^[2] https://economictimes.indiatimes.com/markets/options/indias-options-trading-boom-hides-billions-of-losses-for-retail-traders/articleshow/107653413.cms?from=mdr