What are Futures & Options and its taxability?

What are Futures & Options and its taxability?

The price of the financial and commodity market keeps changing every time. Due to various factors the price may fall down or go up. The relevant factors could be government policies, agricultural produce, inflation or deflation, election results, etc.

Due to all these factors and other relevant factors the prices of stocks in stock market changes rapidly and drastically. To safeguard themselves the investors invests in derivatives like futures and options.

The term derivative means, it is a kind of contract which derives its value from the underlying assets (can be stocks, currency, commodity, etc).

Now let’s understand F&O i.e. futures and options

What is meant by futures?

Futures is a one kind of contract where the investor has right and an obligation to buy or sale shares at pre-determined price in future.

For example;

You bought a future contract to buy 100 shares of ABC Ltd at the rate of Rs 10 each on a particular date. At the expiry of the contract you will be eligible to get those shares at a predetermined price irrespective of current prevailing price.

If the price of shares reduced to Rs 7 each then also you are liable to purchase those shares at Rs 10 each. But if the value of the shares increases to Rs 12 each then also you are eligible to buy the shares at a pre-determined price only, i.e. Rs 10 each.

What is meant by options?

Option is one kind of contract where the investor has right but he is not obliged to buy or sale share at pre-determined price on a particular fixed date. There are two types of options i.e. call option and put option.

The "call option' is one kind of contract where the buyer has right, but not an obligation to buy the shares at a certain price on pre-determined date. Whereas in "put option" you can sell the assets at an agreed price on a pre-determined date.

There is no any mandatory clause in options as like futures to buy or sell assets mandatorily on a pre-determined date. In options, the buyer/ seller can save themselves from huge losses via not opting the contract, but they need to pay premium amount.

Taxability of Future and Option income

In India, you have to pay tax on all the income earned by you except exempted income. Also in case of F&O if you make any profits you are liable to pay tax upon the same. The income or losses arise from F&O treated as business income.

Due to the multiplicity of transactions, it is a complicated task to keep track of income or losses arise out of futures and options.

The expenses relevant to F&O directly deducted from the income. The expenses could be broker's commission, office rent, internet expenses, etc.

Due to the high value of transactions and large volume, the taxability of the transactions is treated differently by the income tax.

Any transactions that take place during F&O is treated as non-speculative business.

How to calculate the turnover of F&O income?

Calculating of future and option income is a confusing yet complicated task. The tax provisions and methods to calculate turnover is different for both future and option income.

Calculation of Turnover for Future contracts

While calculating the turnover of futures, the total of positive and negative differences is to be considered. Even if the figure is negative, it has to be considered as turnover.

For example,

1. If the contract purchased for Rs.10,00,000 and sold for 8,00,000. Then 2,00,000 will be considered as turnover.

After that if again purchased for 11,00,000 and sold it for 10,00,000. Then in this case turnover would be 1,00,000.

In simpler terms, under F&O trading, the turnover of futures will be the absolute profit, which is the sum of positive and negative differences.

Calculation of Turnover for Options contracts:

The turnover of options can be calculated by adding the premium obtained by selling the options to the absolute profit. The Premium received on sales of options has to be treated as turnover.

Applicability of Tax Audit

The Tax audit is applicable in case of F&O income or losses if,

1. As per the provisions of section 44AB, the tax audit is applicable if the turnover of the assessee exceeds Rs 1 crore. The limit is Rs 2 crores in case of presumptive scheme.

2. Tax audit is also applicable when the assessee claims the loss.

Note: While dealing in F&O, if the assessee made any losses then to carry forward the business loss mandatorily his balance sheet should be tax audited or else he will be not able to carry forward his losses to the next year.

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