Future & Options (F&O) Accounting, Audit and Taxation (2024)

Share trading and, Derivative trading (F & O trading) is normal now a days. You will not believe nearly 14.3 million new investors added by the depositories in the year ended 31 march 2021. Further, we cannot deny the role of digitalization and platforms available to invest in stock and derivative market.

Most of people step-in into it without having knowledge about its taxability and how it will be shown in their Income tax return? Is it mandatory to show these transactions in return? Require to maintain books of accounts? You will get answer of all of these questions.

Let’s dig deep into this. Assuming you all know about the future and option. Let’s not go into the definition part.

Trading in Future and option is a business transaction. Yes, you read it correctly. as per section 43(5) of the income tax act, 1961. It is non-speculative business income. One can also refer Guidance Note on tax audit by ICAI pg 25.

So, it is clear that Income from “Future and option trading” is a normal business income.

Salaried people who are doing F&O transaction are actually doing business unknowingly. Many are incurring and losses and some are in profit too.

Calculation of turnover for the Income tax purpose before AY 2022-23

Method of calculation of turnover is not provided under the income tax act, 1961. But given in Guidance Note on tax audit by ICAI pg 25 as follows.

(i) The total of favourable and unfavourable differences (Profit/Loss) shall be taken as turnover.

(ii) Premium received on sale of options is also to be included in turnover.

(iii) In respect of any reverse trades entered, the difference thereon, should also form part of the turnover.

Table 1 : Example of calculation of turnover of Futures:

Table 2 : Example of calculation of turnover of Options:

Calculation of turnover for the Income tax purpose from the AY 2022-23

Law and rules should change according to the need of time. ICAI has also bring some changes in the calculation method of Turnover which fulfils the requirement of the act.

Calculation of the premium will be as follows according to the updated GN on Tax audit U/s 44AB issued by the ICAI.

(i) The total of favourable and unfavourable differences (Profit/Loss) shall be taken as turnover.

(ii) Premium received on sale of options is also to be included in turnover. However, where the premium received is included for determining net profit for transactions, the same should not be separately included.

(iii) In respect of any reverse trades entered, the difference thereon, should also form part of the turnover.

Example of calculation of turnover of Futures same as given in Table 1 above (No change)

Example of calculation of turnover of Options:

In options trading most of the time traders squares off the position if one is the buyer of the call option (premium is paid) he will square off this position by selling this option (Premium will be received) so the differences will be the Profit/loss.

As per new guidance note If the premium is included while calculating net profit than it will not be considered again for the purpose of calculation. If it is not considered for calculation of net profit than Premium will be add to the turnover.

Table 3 : Example of calculation of turnover of Options in where transactions are squared off:

Requirement of Audit:

Let me remind you again this calculation of turnover is only to determined that what will be the position under income tax. On the basis of turnover, we decide tax audit is required or not.

Section 44AB of the Income tax act,1961 provides that:

“Every person carrying business shall, If his turnover is exceed one crore in any previous year, require to get his accounts audited by an accountant.

In case cash receipts and cash payments does not exceed 5% of total payments or receipts 1Crore will be read as 5Crore. For Financial Year 2021-22 this 5Crore limit is further extended to 10Crore. “

As F&O trading is also falls under the category of eligible business (turnover limit is Rs. 2Crore). So, income can also be shown under section 44AD of the income tax act, 1961 on presumptive basis if assessee also is an eligible assessee.

In this case audit under section 44AB clause (e) of the act, will be required only if declared profits are less than 8% or 6% (As the case may be) of the total turnover.

Note: In all the cases of loss audit is not mandatory. It depends case to case. But in general practice and to deal with future litigation this practice followed.

Maintaining Books of Accounts:

As per section 44AA(2) of the income tax act, 1961,

Every person carrying business, require to maintain books of accounts the Income from the business exceeds Rs. 1,20,000 or the turnover exceed Rs 10Lakh.

(Limit for Individual and HUF (Hindu Undivided Family) of Income is Rs. 2,50,000 and for turnover is Rs25 lakhs.)

One who declaring Income according per section 44AD of the act not require to maintain books of accounts.

But If his income exceed the basic exemption limit not chargeable to tax i.e. Rs. 2,50,000 and profits are not declared according to the provisions of section 44AD then require to maintain books of accounts and also get them audited U/s 44AB.

Can be conclude as

Accounting Entry for transactions:

One can do accounting on the basis of differences. Let’s take Table 1, Nifty transaction as an example.

Transaction incurred loss of Rs. 27500, Journal entry will be as follows:

(Being loss incurred on Nifty Future transaction)

In case profit entry will be reversed.

Or one can also keep record by maintaining inventory. Keep in mind turnover for Income will not match with accounting turnover. Cause to calculate turnover under Income tax absolute figures are considered.

Tax on Income, Set-off and carried forward of losses:

As it is considered as normal business income. Profit from F&O trading will be taxed at normal tax rate applicable to assessee.

Loss can be set off from intra head income except speculative business income and inter head income except salary income.

Loss can be carried forward as “Loss from Business & profession” for next 8 assessment years and can be adjusted with profit and gains for business and profession.

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Disclaimer: This article is solely for educational purpose and cannot be construed as legal and professional opinion. It is based on the interpretation of the author and are not binding on any tax authority. Author is not responsible for any loss occurred to any person acting or refraining from acting as a result of any material in this article. You can reach author at caharshalisalvi@gmail.com

(Republished with amendments on 04.09.2022)