Continue reading the previous chapter.
If you have equity investments that last more than one year and show long-term capital gain (LTCG), then you can be considered an investor. If your holding period is longer than one day or less than one year, you can consider yourself an Investor. We also discussed whether it makes sense to show capital gains as business income if you trade more frequently or if trading/investing is your main source of income.
This chapter will cover all aspects of taxation for trading that is considered a business income. It can be classified as:
There is no fixed rate of tax for business income, unlike capital gains.Non-speculative income and speculative income from business must be added together with your other income (salary or other business income as well as interest and rent income) and taxes will be calculated according to the tax bracket that you fall into. Refer to chapter 1 for details on the FY 2020-21 tax levels..
Let me give you an example.
What is my tax liability if I have these incomes for the current year?
To calculate my tax liability, I must add up my salary and all business income (speculative or non-speculative) to determine my total income. Capital gains cannot be added because they have fixed tax rates, unlike salary or business income.
Total Income (salary and business) = Rs.1,000,000
Based on the tax slab, I am now required to pay tax of Rs 12,00,000.
In addition to the income I have now, Rs.100,000.00 is also available as a short term capital gain from delivery-based equity. This income is subject to flat 15% tax.
STCG: Rs 100,000/–, so at 15% tax liability is Rs.15,000/–
Total tax = R.185,000 + R.15,000 = Rs.200,000/ -
This example should give you an overview of how to assess your tax liability and treat your income.
Next, we will look at some important considerations that must be considered when declaring trading income as a business expense for taxation.
You can carry any business loss forward if you file your income tax returns by July 31 st in non-audit cases and Sept 30 in audit cases.
You can carry forward speculative losses for up to 4 years. However, you cannot offset any speculative gains made during that time.
Non-speculative loss can be offset against any other income, except for salary income in the same year. They can also be used to offset bank interest income, rental income, and capital gains but only in .
Non-speculative loss can be carried forward for up to 8 years. However, it is possible to offset any non-speculative gains that were made during that time.
Consider this example: My hotel business income is Rs 1,500,000/–, my interest income for that year is Rs.200,000/–, and I make an unspeculative loss Rs 700,000. In this case, my tax liability would be -
My profit is Rs. 1,500,000/from business and Rs.200,000/from interest, totaling Rs.1,700,000.
I have a non-speculative loss in my business of Rs.700,000. I can use this to offset my business gains and lower my tax liability. Thus
Tax liability = Rs.1,700,000.- 700,000. = HTML1,000,000/-
According to the tax bracket I am in, I would pay Rs.1,000,000/= tax.
As such, Rs.112,500/ is paid as tax.
Speculative (Intraday Equity) losses can't be offset by non-speculative F&O gains. However, speculative gains may be offset by non-speculative loss.
You cannot net-off one another if you have a speculative (intraday Equity) loss of Rs.100,000.00 for a year and a non-speculative gain of Rs 100,000/00. The speculative loss would be carried forward and taxes on the non-speculative profits of Rs 100,000/- would still need to be paid.
Consider this, for example:
My tax liability is calculated as:
Total income = Salary plus gains from non-speculative business income
= Rs.500,000 + R.100,000. Rs.600,000.
I am required to pay tax at Rs.600,000.
Total tax = Rs.12,500 + R.20,000 = HTML32,500/-
I am allowed to carry forward Rs.100,000./- of speculative losses. I can then set-off any future (upto 4 years) speculative gains. The point is that speculative loss can be offset with other speculative profits in a single year or carried forward. Speculative losses in business cannot be offset against business gains.
However, if I had a non-speculative gain Rs 100,000/ and a speculative profit Rs 100,000/- they could be offset one another. Tax in the above example would only apply to Rs 500,000/-.
You might have realized both profits and losses towards the end of a financial calendar year. You will have to pay taxes on the realized profits, and carry forward any unrealized losses into next year if you allow it to be. This will result in a higher tax outgo and any interest you might have earned on the capital that goes away as taxes.
This tax outgo can be postponed by simply booking the unrealized gain and then immediately returning to the same trade. The tax liability for the year would be reduced if the loss is booked. Zerodha is the only Indian brokerage that provides a tax loss harvesting reporting. This will identify all potential opportunities to harvest losses. To learn more , click here.
Equity traders love to use BTST (Buy Today, Sell Tomorrow) and ATST (Acquire Today, Sell Tomorrow) as they are both very popular. It's used to buy and sell stock today without actually taking delivery.
You are not receiving delivery so it should be treated as speculative like intraday equity trading.
Both schools of thought exist. One school considers it speculative since no delivery was made. The second school is that it should be considered non-speculative/STCG because the exchange charges security transaction tax (STT), for BTST trades comparable to regular delivery-based trades. It is important to note that BTST trades only a few times per year should be shown as STCG. However, if they are performed frequently, it is best to show them as speculative income.
If you have business income, it is crucial to pay advance tax. As we have discussed, advance tax must be paid each year. It is 15% by 15 June, 45% by 15, Sep and 75% by 15 December. 100% by 15 . The question is: % of what?
Yes, the % of your annual tax you will likely to pay. If you have a business income, you must pay the majority of your taxes before March 31 st. Trading as a business can be difficult because you may have a great year up to September but cannot extrapolate it to say that your earnings will remain the same until the end. You could make more or less.
However, the advance tax must be paid. Otherwise, the penalty will be 12% annually for the period that it was not paid. You can pay advance tax by paying the tax for the specific time period. So Sept 15 pay the tax earned up to that point, and March 15 th pay the balance. This will give you a fair idea of how the year will end. If you pay more tax than was necessary for the financial year, you can request a refund. The IT department processes tax refunds quickly.
Following link can help you in calculating the advance tax - http://www.incometaxindia.gov.in/Pages/tools/advance-tax-calculator.aspx. You can also see this link to learn how interest and penalties are calculated for non-payment of advance tax.
Trading is considered a business income. You are required, as with any business, to prepare a balance sheet and P&L (income statement) for the financial year. Based on your profitability and turnover, both of these financial statements may need to be audited.
In the next chapter we will discuss tis topic.
What is the best time to have an audit?
If your business has a turnover exceeding Rs 5 crore in a fiscal year (beginning FY 20-21), an audit is required. This limit applies to digital transactions, which are 100% digital. Section 44AD also requires an audit for equity traders in cases of a turnover less than Rs.5 Crores, but profits that are less than 6% and total income above the maximum exemption limit.
In the next chapter, we will discuss it.
Let's clarify what audit actually means.
The term audit is defined as "audit" in the dictionary. It can be used to refer to review, inspection, or check. There are many types of audits that can be performed under different laws. For example, a company audit is required; a cost accounting audit is required. If he meets the income-tax Law's turnover criteria, the Income Tax Law also requires that the taxpayer obtain an audit of his business/profession's accounts.
For more information, see this link to find FAQ's about tax audit at the income tax website.
An audit is also a way to have an accountant check that you have properly prepared all your accounts. It is a request to an accountant to verify that you have prepared the correct balance sheet and P&L statements for the year. This audit should be performed by the IT department. However, due to the sheer number of balance sheets available, it is impossible for the IT department audit every one. We need a Chartered accountant (CA) who is a certified professional authorized by the Income tax department to audit the balance sheet and P&L statement. Any CA can be used by you, the taxpayer.
What role should a CA fill?
A CA should only be required to sign and audit the balance sheets and P&L statement. A CA can also create your balance sheets or P&L statements. However, they will only audit these statements if necessary. In the next chapter, we will briefly describe how a CA creates these statements.
An audit by a CA is crucial. Apart from the reporting requirements, an audit helps traders/investors to know their financial health and ensures that it accurately reflects income. It helps lenders assess credibility and checks for fraudulent practices.
Which ITR form should you use? - ITR3 (ITR 4, 2016), more information on this will be discussed in the final chapter. I have seen cases where people declared both speculative capital gains and non-speculative business income to avoid the need to declare it. ITR3 is not required. If IT scrutiny is required, this shortcut could lead to a lot more trouble.
Trading expenses as business expenses - The advantage of listing trading as a company is that you can clearly show all expenses as costs. This can help reduce your tax bill and, if there is a net loss for the current year, it can be carried forward in the same way as above.
Here are some examples of expenses that may be included in trading costs.
Disclaimer Before you file your returns, consult a chartered accountant. This content is intended for taxation of retail investors/traders.