Tax Audit for Futures & Options Transaction

Futures and Options (F&O) are derivative instruments trading within the stock
market. They are known as derivatives, as these instruments derive their value from
an underlying asset like, a market index, shares, commodity, etc.
A future instrument is a contract, wherein the trader is obliged to buy/sell the
underlying asset on a predetermined date for a fixed price. On the contrary, Options
is a contract, wherein the buyer has a right/choice to buy (Referred to as Call Option) or
to sell (Referred as Put Option), the underlying security for a determined price on the
predetermined date.
The settlement of F&O Transactions is done by receipt or payment of the differential
amount, i.e. otherwise than by way of actual delivery or transfer of the underlying
instrument, and thus are ascribed as Speculative transactions.

Nature of Income from F&O Transactions
According to the Income Tax Act, any income or loss, arising from the trading of
derivatives is treated and recognized as Business Income or Business Loss, i..e;
considered under the head Profits & Gains of Business or Profession.
As per Proviso to Section 43(5) of the Act, clause d and e, transactions for trading in
derivatives or Commodity derivatives, which are carried out on a Recognized Stock
Exchange shall be excluded from the meaning of Speculative Transactions. This
implies that Income/Loss from F&O Transactions is Non-Speculative in nature.
Audit Provision with Respect of F&O Trading
As explained above, F&O Trading is treated as normal business, so in this way
Provisions stated in Section 44AB and 44AD shall be applicable to F&O transactions
as well.
Section 44AB of the IT Act
● Every Person, whose Total Sales/Turnover or Gross receipts from the
business of Futures & Options exceeds Rs 10 Crore during the Financial
year shall be required to get their Accounts audited. (Threshold limit of Rs 1
Crore is not applicable in the case of F&O Transactions, as an aggregate of the amount
received/payments in cash does not exceed 5% of the said amounts.)
● Every person shall be required to get their Accounts audited for F&O
Transactions, if provision of Section 44AD, sub-section (4) are applicable in
his case and Income exceeds Maximum Amount not chargeable to Tax.

Section 44AD of the IT Act
● An eligible Assessee, whose Total Turnover or Gross receipts from the
A business carried does not exceed Rs 2 Crore, can opt for the deeming provision
u/s 44AD(1) and declare Income @ 6% of the Total Turnover or actual Profit,
if higher than the aforesaid sum.
● According to sub-section (4), an assessee who has declared Income under
sub-section (1), cannot opt-out from the Presumptive section for the
subsequent 5 years.
If an assessee wishes to opt-out, they shall be required to get their accounts
audited, as stipulated under section 44AB(e).
The upshot is that, Tax Audit in case of F&O Transactions shall be required only in
Two scenarios, even if their is net Loss from it:
1. If the Turnover exceeds Rs 10 crores during the F.Y. or
2. The Assessee availed/opted for Presumptive taxation u/s 44AD in any of the
preceding 5 years, but is not opting the same for the current year.

Determination of Turnover in respect of Futures and
Options
In order to check the applicability of Tax Audit Provisions, the meaning of the term
Turnover/Sales or Gross receipts need to be determined.
According to the Guidance Note on Tax Audit u/s 44AB of the Act, issued by ICAI,
effective from A.Y. 2022-23 and subsequent years; Turnover shall be reckoned as
follows:
1. The aggregate of favorable and unfavorable differences, i.e. Absolute
figures, ignoring the Positive and negative signs shall be considered.
2. In the case of Options, the Amount of Premium received on sale shall also be
included. However, the Premium amount shall not be considered separately,
if the same is already included in determining Net Profit for the transactions.
3. The difference on account of any Reverse trades entered, shall also be taken
into consideration.
Claiming of Expenses against F&O Gains:
The following Expenses that have been actually incurred are tax deductible:
● Administration Expenses like Electricity, Telephone, Internet expenses, etc.
● STT or Brokerage or Cess, can be claimed
However, the onus to prove the incurrence of such expense shall be on the Assessee.

Carry Forward and Set Off of Loss from F&O:

● Any Loss arising from Futures & Options can be set off against any other
Income of the taxpayer, except Income chargeable under the head salary.
● Such Loss can also be carried forward for a maximum 8 years and adjusted in
the subsequent year, against Income from Business or Profession, provided
the Income Tax Return is furnished on or before the due date of furnishing, as
specified u/s 139(1) of the Act.