Income Tax on F&O Trading: A Complete Guide

Trading in Futures and Options (F&O) has seen significant growth in recent years. The turnover of F&O contracts reached a record Rs 87.40 lakh crore in March 2024. Based on the number of contracts, the National Stock Exchange (NSE) held the position of the world’s largest derivative exchange for the fifth consecutive year, highlighting the increasing popularity of F&O trading in India.

As more individuals engage in Futures and Options trading, it is essential to understand the Income Tax provisions related to F&O trading. Here’s a comprehensive guide to serve as a ready reference for everything you need to know about Income Tax on F&O trading.

What is F&O trading?

Futures and Options are derivative instruments whose value is based on the price of an underlying asset. The underlying asset could be an index, an individual stock, a commodity, an interest rate, or a currency.

While future contracts allow the trader to buy or sell a contract at a predetermined date and price in the future, an option contract allows you to buy/sell the contract without having any obligation to do so.

Taxability of F&O Trading in India

Traders trading in F&O in India must understand that this income falls under the tax net, and there are specific provisions under the Income Tax Act 1961 that apply to this form of trading.

Many taxpayers think that it is only income from F&O trading that should be reported as it is taxed. It is not so, even losses from F&O trading should be reported in your Income Tax return. As all transactions on account of  F&O trading are recorded digitally, you may get a notice from the Income Tax department in case you fail to declare your F&O income/loss on your ITR.

Moreover, declaring your F&O income/loss on your Income Tax Return has many benefits, which we will discuss later in this article.

How is F&O Trading Income Taxed?

According to Section 43(5) of the Income Tax Act, F&O transactions through recognized exchanges are treated as non-speculative business transaction transactions. This classification is important because:

• Losses can be set off against any other business income

• No separate treatment is needed, unlike speculative business income

• STT (Securities Transaction Tax) must have been paid for these trades

This income/loss is shown under the category of Profit or Gains from Business or Profession (PGBP) and taxed accordingly.

Tax Calculation on F&O Income

F&O income is classified as business income as per the Income Tax Act 1961. Let us use an example to give you a better idea of how tax calculation is done on F&O income.

Rajesh is an F&O trader. Here are his transactions along with profit & losses for the Financial Year 2024-25. In addition, he has a salary income of Rs 3,00,000 and income from House Property of Rs 2,00,000

Step 1: Calculation of Gross Trading Income

Step 2: Calculation of Expenses incurred for trading

Step 3: Calculation of Net Trading Income

After deducting the expenses, we come to a Net Taxable Trading Income of Rs 3,42,900.

Step 4: Clubbing of Net Trading Income with Income from Other Sources

Since Rajesh has income from other heads like Salary and House Property, the income from F&O trading will be treated as income from business and clubbed with income from Salary and House Property.

Rajesh's Other Income: ₹5,00,000

Total Taxable Income: ₹8,42,900

Tax Calculation (FY 2024-45 Rates):

Tax Calculation in case of F&O loss

In the example above, Rajesh had an F&O profit of Rs 3,42,900, instead, let’s assume he had a loss of Rs 2,50,00 from F&O trading. In this case, as F&O loss is treated as business loss, it can be set off against other income other than salary income in the current year.

In our example, this is how Rajesh’s income would have been calculated on account of F&O loss.

Filing Income Tax Returns for F&O Trading

Using the right  Income Tax Return forms is extremely important. As you know, losses from F&O trading can be carried forward for 8 years and set off against the business income, but only if IT returns are filed.

As income from F&O trading is treated as Business Income, ITR 3 is the right form for filing IT returns. Here is a list of the Forms and Schedules required for filing ITR 3.

ITR Forms

• ITR-3: For business income classification

  • Part A P&L for business details

  • Schedule BP for income computation

  • Schedule DPM for depreciation

Tax Planning for F&O Traders

Since F&O income is shown under the head Profit or Gains from Business or Profession (PGBP), a detailed record of documents would be required as below.

Documents Required to Show F&O Losses in Income Tax Returns:

1. Contract Notes from the Broker with transaction-wise details

2. Statement of Accounts with margin requirements, collateral details, and deposits

3. Bank Statements showing brokerage payment details, trading account transactions, margin money transfers, etc

4. Ledger Statements with scrip-wise details, mark-to-market settlements, and chronological records of all trades.

- Keep these documents for at least 8 years from the relevant assessment year

- Ensure all documents are properly dated and signed where applicable

- Maintain digital backups of all statements

- Reconcile these documents before filing returns to ensure consistency

- Have broker-certified copies available if requested by tax authorities

Tax optimisation strategies 

• Since F&O losses can be set off against other incomes during the current financial year, you can consider timing your trade settlement and book losses strategically to make use of this provision.

• Ensure better planning and prompt payment of advance tax before the due dates to avoid payment of penalty and interest.

• Understand the requirement of a tax audit and provisions of presumptive taxation when your trading turnover crosses prescribed threshold limits.

Conclusion

F&O trading tax implications can be complex. While this guide covers most scenarios, consulting a tax professional for your specific situation is recommended.