Why disclosure of Share Transaction are Important in Income Tax Returns even in case of Loss?
Introduction
Income Tax Return is the form in which assessee files information about his Income and tax thereon to Income Tax Department and reporting one’s income, profits and losses and other deductions as well as details about tax refund or tax liability. Various forms are ITR 1, ITR 2, ITR 3, ITR 4, ITR 5, ITR 6 and ITR 7.
Many people have interest in stock markets and they casually do intra-day trading or invest in stocks in small amounts, resulting into gains or losses. As they deal in small quantities in a casual manner and the net short-term capital gain (STCG) and/or long-term capital gain (LTCG) or Profit is not very significant compared to their salary, such tax payers, at the time of e-filing of Income Tax Return, often ignore to mention these transactions in their Income Tax Return.
Why do people do not disclose their share transactions?
Non-disclosure of these insignificant gains or losses is mainly due to their casual attitude. It is also due to the fear of filing a complex ITR-2 or ITR-3 instead of filing an easy ITR-1 which may make them reluctant to disclose their share transactions.
ITR -1 Form is a simplified one-page form for individuals having income up to Rs 50 lakh from Salary/Pension, One House Property (excluding cases where loss is brought forward from previous years) or Income from Other Sources (excluding winning from Lottery and Income from Race Horses). But a person dealing in shares will have to file ITR 2 (ITR Form 2 is for Individuals and HUF receiving income other than income from “Profits and Gains from Business or Profession”) or ITR 3 (used by an individual or a Hindu Undivided Family who have income from proprietary business or are carrying on profession).
Income from capital gains can be reported in Form ITR-2 or ITR-3. As every transaction in securities is unique, gains or losses arising from such transaction should be reported separately or in aggregate. In this regard, the e-filing platform has issued a clarification that the taxpayer has an option to show scrip-wise details or the aggregate value of gain or loss in schedule CG.
Business income versus capital gains
It is important to disclose income under the correct head and in correct schedule. Thus, the first question is whether gains arising from sale of securities should be reported as business income or capital gains. It is important to solve this question as both of them have different tax treatment. As per CBDT guidelines, if assessee himself treats listed shares as stock-in-trade, the income arising from such transfer would be treated as business income.
If the listed shares are held for more than 12 months, the assessee can treat the income arising for their sale as capital gains. However, this stand, once taken in a particular year, shall remain applicable in subsequent years also and taxpayers shall not be allowed to adopt a contrary stand in this regard in subsequent years.
If investors opt to disclose income under the head capital gains, it has to be classified into long-term or short-term. If listed shares and units of equity-oriented funds are sold after 12 months, income shall qualify as long-term capital gains. For units of mutual funds other than equity-oriented funds, the period of holding has to be more than 36 months to qualify as long-term.
How is loss on share transactions to be treated?
Capital loss, whether short-term or long-term, cannot be set-off against income taxable under any other head. It can be set off only against long-term capital gains. It cannot be set-off against short-term capital gains. However, short-term capital loss can be set-off against both long-term and short-term capital gains. Unabsorbed capital loss can be carried forward for 8 assessment years and set off against the relevant capital gains of the subsequent year, only if the return of income is filed on or before the due date.
In case of business loss, it can be set-off against the income taxable under any heads except salary income. The unabsorbed business loss can be carried forward up to 8 assessment years. It can be set off only against the business income in subsequent years. Such loss can be carried forward only if return of income is filed on or before the due date, otherwise, the right to carry forward and set off is lost.
Such carry forward and set off will be only possible if the assessee reports his share transactions duty in his Income Tax Returns.
Income from shares can be from the following sources:
Investment Income
Investment in shares, leads to capital gains on the sale of shares which are taxable. Capital gains are the difference between the selling price and purchase price of the equity share. If an equity share, listed on a recognised stock exchange is sold within one year from the date of purchase, one earns short-term capital gains. These will be taxed at the rate of 15%.
Conversely, if you sell a listed equity share after one year from the date of purchase, you earn long-term capital gains (LTCG). LTCG in excess of Rs 1 lac are taxable at the rate of 10% without the benefit of indexation.
Intra Day Trading
Day trading usually refers to the practice of purchasing and selling a security within a single trading day. While it can occur in any marketplace, it is most common in the foreign exchange (forex) and stock markets. Day traders are typically well-educated and well-funded. They use high amounts of leverage and short-term trading strategies to capitalize on small price movements that occur in highly liquid stocks or currencies.
Normal Trading
Normal Trader means a person who does trading in shares but not on day to day basis as an intraday trader. Normal Traders buy shares, take delivery and then sell it to book profit or gain.
Normal Trader can also be categorized as an Investor but there is one major difference between the normal trader and an investor i.e. normal trader holding period of shares is always short-term while holding period of shares in case of an investor could be long-term as well as short-term. Apart from this difference, both normal trader and an investor are same in all aspects. Both take delivery before selling but a point to remember is that in case normal trader who shows shares under stock-in-trade shall always be assessed under the head of Income from Business even he takes delivery of shares. Taxation of the Normal Trader is also same as an Investor i.e. gains shall be assessed as Business Income or Loss which are taxed at the rate of 30%.
Derivative Trading
Derivatives are financial securities whose value or price is derived from an underlying asset or a group of assets, such as stocks, bonds, commodities and currencies, among others. Derivatives are used by traders to speculate on the future price movements of an underlying asset, without having to purchase the actual asset itself, in the hope of booking a profit. Traders or businesses also use derivatives for hedging purposes, in order to mitigate risk against another position they have taken in the market. F&O trading loss is considered a non-speculative loss. Intra-day stock trading is considered as a speculative loss.
Certain taxpayers treat gains or losses from the sale of shares as ‘income from business’, while certain others treat it as ‘Capital gains’. Whether your gains/losses from sale of shares should be treated as business income or be taxed under capital gains, has been a matter of much debate. In case of significant share trading activity (e.g. if you are a day trader with lots of activity or if you trade regularly in Futures and Options), usually your income is classified as income from business.
New clarification from CBDT
Taxpayers have now been offered a choice of how they want to treat such income. Once they choose, they must however continue the same method in subsequent years
To reducing litigation in such matters, CBDT has issued the following instructions (CBDT circular no 6/2016 dated 29th February 2016)
If the taxpayer himself opts to treat his listed shares as stock-in-trade, the income shall be treated as business income. Irrespective of the period of holding of listed shares. The AO shall accept this stand chosen by the taxpayer.
If the taxpayer opts to treat the income as capital gains, the AO shall not put it to dispute. This is applicable for listed shares held for a period of more than 12 months. However, this stand once taken by a taxpayer in a particular assessment year shall be applicable in subsequent assessment years also. And the taxpayer will not be allowed to take a different stand in subsequent years.
In all other cases, the nature of transaction (whether capital gains or business income) shall continue to be decided basis the concept of ‘significant trading activity’ and the intention of the taxpayer to hold shares as ‘stock’ or as ‘investment’.
Why should I report my share transactions?
It should be kept in mind that be it significant or insignificant, gain or loss, a person involved in transaction of securities must disclose it in his/her ITR, provided the total income exceeds the tax-free limit in a financial year. If a person wants to carry forward the unadjusted capital loss, or to bring forward such a loss from the previous year, filing of ITR will be necessary.
The benefit of mentioning the transactions in ITR is that in case of any short-term capital loss (STCL), it may be set off against both STCG and LTCG. However, in case of any long-term capital loss (LTCL), it may be adjusted against LTCG only. If transactions in capital assets (like share, mutual fund (MF), land & building, machinery etc) are not mentioned in ITR, the opportunity of setting off capital losses will be lost.
Omitting such transactions would not only invite a notice for non-disclosure, but may also attract penal actions due to tax avoidance.
Communications Received under E-campaign for non disclosures
An e-campaign was launched for the benefit and convenience of the taxpayers from 20th July, 2020 for a period of 11 days. The objective of the e-campaign was to facilitate taxpayers to validate their financial transaction information against information available with the IT department. The campaign sought to enable voluntary compliance to avoid notice and scrutiny process.
Under the campaign, the IT Department send emails and SMS to identify taxpayers to verify information related to their financial transactions that were received by the IT Department from various sources such as Tax Deduction at Source (TDS), Statement of Financial Transactions (SFT), Tax Collection at Source (TCS) and Foreign Remittances (Form 15CC).
The Department, also collected information related to goods and service tax (GST), exports, imports and transactions in securities, derivatives, commodities, mutual funds, etc., under information triangulation set up and data analytics. Many assessee’s received communications under the e-campaign as they had failed to intimidate their share transactions.
Filing ITR comes with a number of benefits such as claiming deductions, set off and carry forward of losses, avoid interest and penalties on tax liability and so on.
It is always considered a prudent action to file one’s income tax return on time. More than any other benefit, being on the right side of law helps. It is recommended to keep the income tax department informed about one’s income and taxability. This communication is only possible when one files their ITR.
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