Details

Many people are misinformed about the requirements for a tax audit in cases of profit or loss from futures and options trading. This article provides a comprehensive discussion on the tax audit implications for futures and options trading.

I. Income Head Type –

F&O trading is treated as business income and reported under the head Profits and gains from business profession in the ITR resulting in the ITR-3 form.

II. Tax Audit Requirement:

III. Turnover for F&O means

Trading turnover of Futures and Options business shall be Absolute Profits.

Absolute Profits = Total of all trade differences, treating each trade difference as positive regardless of profit/loss.

IV. Accounting Turnover

While doing the accounting from contract notes, MTM profits/losses are booked in accounts. That is the turnover in accounts will be the Profits and losses netted off and not the entire sale value as the sale value is just an exposure and there is no outflow of the exposure but a margin % of the exposure which held with the broker and netted off after position is squared off.

Also, we can take deduction of brokerage, and other directly related expenses in the debit side of the trading account and thereby reflect true profit/loss from F&O trading.

V. Practical Example

Let us take an example to understand F&O Turnover, Accounting Turnover, presentation in ITR and audit applicability.

Analysis:

1. The F&O turnover that is absolute profits is ₹17.69 lakhs which is only used to determine tax audit applicability and has nothing to do with Accounts/ITR.

2. The accounting turnover can be taken as ₹2.25 lakhs which shall be presented on credit side of trading account.

3. For audit applicability, we shall see F&O Turnover as in this case it is ₹17.69 lakhs which is way below ₹10 crore limit of sec 44AB. Hence, tax audit is not applicable even though the sale value (exposure of F&O contracts) is above 10 crores. So, presenting sales value in accounting turnover can inflate the turnover and drag you into unnecessary litigations regarding audit applicability.

4. For tax audit to become applicable, the absolute profits should exceed ₹10 crores (assuming sec 44AB(e) is not applicable).

Comprehensive Analysis of Section 44AD in Relation to F&O Trading along with Audit in case of Loss:

1. Overview of Section 44AD:

Section 44AD is a presumptive taxation provision that requires taxpayers to declare income at 6% or 8% of their turnover.

2. Turnover Calculation for Section 44AD:

For the purposes of section 44AD, the turnover should include the total of all eligible businesses, including normal business activities and F&O trading. The combined turnover is used to determine the applicability of section 44AD.

3. Section 44AB(e) Compliance:

If section 44AD is applicable and opted for, with a combined turnover up to Rs. 2 crores (or Rs. 3 crores if 95% of receipts are through digital modes), then if the combined profit is less than 6% or 8% and the total income exceeds the maximum amount not chargeable to tax, a tax audit becomes mandatory.

4. Tax Audit in Case of F&O Loss:
When there is a loss from F&O trading, the applicability of a tax audit depends on two conditions: a) The declared profit should be less than 6% or 8%. b) The total income should exceed the maximum amount not chargeable to tax.

If there is a loss from F&O trading, the first condition is met, but the second condition may not be, as the maximum amount not chargeable to tax for an individual is Rs. 2,50,000. Therefore, in such cases, a tax audit is not applicable.

Disclaimer: These are my interpretations and analyses, and alternative perspectives from the department or other professionals may exist. I welcome further discussion on this matter from different viewpoints.

Regards,
CA Ronak Gandhi