Understanding Tax Audit Requirements for Stock Market Traders
Now that the income tax return (ITR) filing season is upon us, it's essential to start preparing your tax return information and data. To submit your ITR, you can use the e-filing ITR portal or the income tax utility. If you are involved in trading in securities and futures and options (F&O) in the stock market, it's crucial to understand the tax audit requirements.
This article explores when stock market traders should conduct a tax audit and subsequently file their ITR.
Classification of Stock Market Trading Income
According to Taxmann research, intraday trading in the stock market, along with future and option trading, is typically classified as income from speculative business unless you are a registered business solely engaged in stock market trading. In such cases, the income would be reported as business income.
The focus of this article is on individuals who do not own any registered business but engage in stock market trading, such as students and salaried employees.
As per Taxmann Research, gains or losses from intra-day trading, classified as speculative transactions, are always subject to taxation under the category: 'Profits and Gains from Business or Profession'.
A 'speculative transaction' refers to a contract for the purchase or sale of any commodity, including stocks and shares, that is periodically or ultimately settled without actual delivery or transfer of the commodity or scrips.
The Income-tax Act classifies business income into 'speculative' and 'non-speculative' categories. There are no separate provisions for the computation and taxability of income from speculative business except for the provisions related to set-off and carry forward of losses.
Taxmann Research states that income from speculative business is computed similarly to normal business and taxed at the rates applicable to the individual taxpayer. However, any loss from speculative business cannot be set off against other income, including non-speculative business income. In other words, losses from speculative transactions can only be offset against income from speculative transactions.
Applicability of Tax Audit for Stock Market Traders
According to Taxmann Research, determining the applicability of a tax audit involves calculating the turnover from intra-day trading. The computation of turnover is a critical factor, as the requirement for a tax audit depends on the turnover.
If the total sales, turnover, or gross receipts from the business during the previous year exceed Rs 1 crore, a tax audit is mandatory. However, if cash receipts and payments during the year do not exceed 5% of the total receipt or payment, the threshold limit of Rs 10 crore applies.
In simpler terms, if more than 95% of business transactions are conducted through banking channels, a tax audit is required only when the turnover exceeds Rs 10 crore.
Taxmann Research highlights that since intra-day trading in shares is conducted through banking channels, a tax audit is generally required only when the turnover exceeds Rs 10 crore.
Computation of Turnover
According to Taxmann Research, the Income-tax Act does not provide specific guidance for computing turnover in the case of intra-day trading. However, the Guidance Note on Tax Audit issued by the ICAI outlines the method for determining turnover in speculative transactions.
A speculative transaction occurs when a contract for the purchase or sale of a commodity or security is settled without actual delivery or transfer of the commodity or scrips. In such cases, there can be both positive and negative differences arising from the settlement of contracts. Each transaction resulting in a positive or negative difference is considered an independent transaction.
Although contract notes are issued for the full value of the purchased or sold asset, the entries in the books of account only include the differences. Therefore, the aggregate of both positive and negative differences is considered as the turnover.
For example, consider Mr. X's intra-day trading of shares during the year:
| Securities | Purchase Value | Sale Value | Amount of Gain or (Loss) |
|---|---|---|---|
| A | 1,00,000 | 1,15,000 | 15,000 |
| B | 95,000 | 71,000 | (24,000) |
| C | 250,000 | 2,35,800 | (14,200) |
| D | 3,04,000 | 3,20,000 | 16,000 |
The turnover from intra-day trading of shares (speculative transactions) is calculated as follows:
| Securities | Amount of Gain or (Loss) |
|---|---|
| A | 15,000 |
| B | (24,000) |
| C | (14,200) |
| D | 16,000 |
| Total | 69,200 |
Set-off and Carry Forward of Losses
According to Taxmann Research, losses from intra-day trading cannot be set off against income taxable under any other head, such as salaries, house property, capital gains, or other sources. These losses can only be set off against speculative profits from intra-day trading.
It is important to note that unabsorbed losses can be carried forward for up to four Assessment Years. They can only be set off against speculative business income in subsequent years. Carrying forward the business loss is possible only if the ITR is filed on or before the due date. If the ITR is not filed within the prescribed due date, the right to carry forward and set-off is lost.
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