Most of the retail investors in India are salaried employees of public or private companies. Their companies take care of deducting the tax at source on a monthly basis. The only job of employees at the end of every financial year is to file the income tax return and claim for any refunds. As 99.99% of the salaried person turned retail investor belongs to salary cap below 50 lakhs, they mostly use ITR 1 and take pride of the fact that they have paid all the taxes at source itself.
But how many of us know the fact that if you have done at least one complete trade, we are not supposed to submit ITR 1 and have to use either ITR 2 or ITR 4. A complete trade means a buy and sell on a particular share. This means you have realized a loss or profit on that particular stock which is liable for tax payment.
Different Types of Tax on Direct Stock Market Trading
Income Tax on Stock market is broadly classified into 3 types
1. Capital Gain Tax
2. Business Income
3. Tax on Dividend
Also trades in stock market are classified into 3 types
1. Delivery based Trading
2. Intra-day Based Trading
3. Futures and Options Based Trading
Understanding Capital Gain Tax for Delivery based Trading
Capital gain tax in stock market is further divided into 2 categories
1. Short Term Capital Tax: If you buy a stock and sell the same within an year, you are liable to file the returns despite of the fact that your trade ended up in profit or loss. If you made profit, you should pay 15% STCL on the net profit. If you made a loss, you have an option to carry forward realized short term loss so that it can be offset against a gain in coming years.
2. Long Term Capital Tax: If you buy a stock and sell the same after an year, you are liable to file the returns despite of the fact that your trade ended up in profit or loss. There is no long term capital gain on the profit. If you made a loss, you have carry forward it for coming years. The bottom line is you cannot carry forward long term capital loss. For example you bought suzlon in 2008 @Rs100 and sell it now @Rs.20, you don't have the luxury to carry forward the loss of Rs.80.
If you look at the type of trades we discussed, it is easy to understand that Short Term Capital Tax and Long Term Capital Tax deals with delivery based trading. Now 2 more trading segments are remaining which will be covered under Tax on Business Income.
1. Intraday Based Trading
2. Futures and Options
1. Short Term Capital Tax: If you buy a stock and sell the same within an year, you are liable to file the returns despite of the fact that your trade ended up in profit or loss. If you made profit, you should pay 15% STCL on the net profit. If you made a loss, you have an option to carry forward realized short term loss so that it can be offset against a gain in coming years.
2. Long Term Capital Tax: If you buy a stock and sell the same after an year, you are liable to file the returns despite of the fact that your trade ended up in profit or loss. There is no long term capital gain on the profit. If you made a loss, you have carry forward it for coming years. The bottom line is you cannot carry forward long term capital loss. For example you bought suzlon in 2008 @Rs100 and sell it now @Rs.20, you don't have the luxury to carry forward the loss of Rs.80.
If you look at the type of trades we discussed, it is easy to understand that Short Term Capital Tax and Long Term Capital Tax deals with delivery based trading. Now 2 more trading segments are remaining which will be covered under Tax on Business Income.
1. Intraday Based Trading
2. Futures and Options
Understanding Tax on Business Income
To understand the applicability of Business Income on your intraday and F&O trades, the first step is to classify yourself as either a trader (Need to file as business income) or an investor (Need to file as capital gains). There is no hard core rule mentioned by income tax department on this and this is still a grey area to be cleared.
Though many of the new generation brokerages advocate that even for a single Futures and Options trade you need to file as business income, my personal opinion (I am not a CA) is that it wholly depends on how you categorize yourself in stock market. Are you treating yourself as an investor or trader? If you treat yourself as an investor it makes your life easy. If you treat yourself as a trader, and made loss in F&O, you probably need a CA to perform an audit.
Business Income is classified into 2 categories
1. Speculative Business Income
2. Non-Speculative Business Income
Though many of the new generation brokerages advocate that even for a single Futures and Options trade you need to file as business income, my personal opinion (I am not a CA) is that it wholly depends on how you categorize yourself in stock market. Are you treating yourself as an investor or trader? If you treat yourself as an investor it makes your life easy. If you treat yourself as a trader, and made loss in F&O, you probably need a CA to perform an audit.
Business Income is classified into 2 categories
1. Speculative Business Income
2. Non-Speculative Business Income
Intraday Trading Is Considered As Speculative Business Income
Income from intra-day trading is considered as speculative income and taxed as per personal income tax slab. Section 43(5) of the Income Tax Act, 1961, deals with speculative transaction. It states that a transaction of purchase or sale of a commodity including stocks and shares settled otherwise than by actual delivery or transfer of the commodity or scrip is a speculative transaction.
In intra-day trading in shares, there is no actual delivery as the shares enter and exit from the trading account on the same date and it does not enter the demat account at all.
Example: Krishna is a salaried person whose net taxable income is 12lakhs. Assume that he has an intra-day trading gain of Rs. 3 lakhs. So his total taxable income becomes Rs. 15 lakhs. In this case, as per the current income tax slabs, he has to pay 30% tax for his intra-day gains.
In intra-day trading in shares, there is no actual delivery as the shares enter and exit from the trading account on the same date and it does not enter the demat account at all.
Example: Krishna is a salaried person whose net taxable income is 12lakhs. Assume that he has an intra-day trading gain of Rs. 3 lakhs. So his total taxable income becomes Rs. 15 lakhs. In this case, as per the current income tax slabs, he has to pay 30% tax for his intra-day gains.
F&O Trading Is "Mostly" Considered As Non-Speculative Business Income
Why I used the term "mostly" because whether F&O trading can be considered as a business or not depends upon many factors. It is not decided only for the existence or absence of any one condition.
There can be cases where such transactions are not considered as business. Any earnings out of F&O trading are treated as either income from business or capital gains income depending upon certain facts like frequency of transactions.
Example: Rahim is a salaried person who trades in F&O once in a while. Assume that his total turnover is Rs.1 lakh and he made a loss of Rs. 20000 in a financial year in F&O trading.
Here if Rahim consider him as a trader, these transactions become part of business income and thus it requires an audit (which may cost Rs.10000) since the total turnover is less than 1 crore and the profit is less than 8 percent. But if he consider himself as an investor he can consider this as part of short term capital gain and club it with delivery based trading gains.
Since this is till an area with no clear cut guidance from income tax department, brokerage houses have different opinions. For example, below given is a screen-shot from Karvy, one of the leading traditional brokerage houses of India.
They clubbed F&O trades under Short Term Capital Head. This is because they treat a customer who does less volume in F&O as an investor and done the calculations.
There can be cases where such transactions are not considered as business. Any earnings out of F&O trading are treated as either income from business or capital gains income depending upon certain facts like frequency of transactions.
Example: Rahim is a salaried person who trades in F&O once in a while. Assume that his total turnover is Rs.1 lakh and he made a loss of Rs. 20000 in a financial year in F&O trading.
Here if Rahim consider him as a trader, these transactions become part of business income and thus it requires an audit (which may cost Rs.10000) since the total turnover is less than 1 crore and the profit is less than 8 percent. But if he consider himself as an investor he can consider this as part of short term capital gain and club it with delivery based trading gains.
Since this is till an area with no clear cut guidance from income tax department, brokerage houses have different opinions. For example, below given is a screen-shot from Karvy, one of the leading traditional brokerage houses of India.
They clubbed F&O trades under Short Term Capital Head. This is because they treat a customer who does less volume in F&O as an investor and done the calculations.
Which ITR Should I Use?
Below given are few examples. Please check you belongs to which category?
Example 1: Raman is a salaried person who bought 10 Infosys shares in June 2015. Which ITR he should use?
Since Raman has not realized the loss or profit in 2015-16 financial year he can use ITR1 and no need to mention about his investment.
Example 2: Raman sold 5 out of 10 Infosys shares in May 2016 and made Rs.5000 profit. Which ITR he should use?
Since Raman has realized profit within an year, his profit is under the category of short term capital gain and he is liable to pay short term capital gain of 15%. The good thing is that it does not linked with income tax slabs. So even if you belong to 30% tax bracket for your salary income, your short term capital gain is 15%. In this case Raman should use ITR2.
Example 3: Raman sold the last 5 Infosys shares in Jan 2017 and made Rs.5000 profit. Which ITR he should use?
Since Raman has realized profit after an year, his profit is under the category of long term capital gain which is completely tax free. But the profit has to be accounted and Raman should use ITR2.
Example 4: Raman does F&O trading once in a while and his turnover is less than 10 lakhs. He made a profit of 1 lakh. In this case Raman can consider himself as an investor any pay STCG tax of 15%. This can be filed using ITR2.
Example 4: Raman does a lot of F&O trading and his turnover is more than 10 lakhs. In this case Raman should consider his trading activities under business income and probably go for ITR 4.
This post is meant to have a debate on the wide spread school of thought that even if we have done one F&O trade in an year, we need to file ITR4 and audit is required even if that single trade resulted in loss.
ITR 4 is meant for business guys who do actual business like running a company or a shop. It is ridiculous that an investor who does an F&O trade and incurred a loss of Rs. 500 (His turnover is just Rs. 500) has to spend Rs. 10000 to get it audited by a CA. May be people with commerce background can throw some lights on this !!.
Having said that, its better to consult your financial advisor before filing the tax returns.
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