[Opinion] Income-tax Issues for Taxation of ‘Futures and Options’

V K Subramani – [2024] 158 taxmann.com 318 (Article)

The term ‘profit’ is not defined in the Income-tax Act, 1961. The Black’s Law Dictionary (Fifth Edition) says

“Profit. Most commonly, the gross proceeds of a business transaction less the costs of the transaction i.e. net proceeds. Excess of revenue over expenses for a transaction; sometimes synonymously with net income for the period. Gain realized from business or investment over and above expenditures”.

The apex court in E.D. Sassoon and Co. Ltd. v. CIT [1954] 26 ITR 27 (SC) quoted the observations of Lord Justice Fletcher Moulton in Spanish Prospecting Company Ltd., In re [1911] 1 Ch 92 on the meaning of the word ‘profits’ in page 47 as

“‘Profits’ implies a comparison between the state of a business at two specific dates usually separated by an interval of a year. The fundamental meaning is the amount of gain made by the business during the year. This can only be ascertained by a comparison of the assets of the business at the two dates”.

It is well known that the term ‘income’ defined in section 2(24) is meant for taxation purposes which can undergo change based on the legal provisions contained in the Income-tax Act, 1961 including certain deemed incomes with or without, deductions and allowances. On the other hand, the term ‘profit’ is more associated with the commercial usage which does not bear significance for the purpose of computing ‘income’ for imposing income-tax thereon.

‘Futures and options’ are one of the types of derivatives. Their taxation and disclosure in ITR are discussed in this write up.

1. Legal provisions

Section 43(5) says “speculation transaction” means a transaction in which a contract for purchase or sale of any commodity, including stocks and shares, is periodically or ultimately settled otherwise than by the actual delivery or transfer of the commodity or scrips.

The following shall not be deemed to be speculative transaction:

(i) A contract in respect of raw materials or merchandise entered into by a person in the course of his manufacturing or merchanting business to guard against loss through future price fluctuations in respect of his contracts for actual delivery of goods manufactured by him or merchandise sold by him. An obvious example is that of a trader entering into a contract for supply of raw materials to him at a pre-determined price on certain future date. The commodity is delivered as per contract subsequently.

(ii) A contract in respect of stocks and shares entered into by a dealer or investor therein to guard against loss in his holdings of stocks and shares through price fluctuations;

(iii) A contract entered into by a member of a forward market or a stock exchange in the course of any transaction in the nature of jobbing or arbitrage to guard against loss which may arise in the ordinary course of his business as such member;

(iv) An eligible transaction in respect of trading in derivatives referred to in clause (ac) of section 2 of the Securities Contracts (Regulations) Act, 1956 carried out in a recognized stock exchange;

(v) An eligible transaction in respect of trading in commodity derivative carried out in a recognized stock exchange which is chargeable to commodities transaction tax under Chapter VII of the Finance Act, 2013.

In this write up the term ‘futures and options’ and ‘derivatives’ are used interchangeably but would mean ‘futures and options’ only as the term ‘derivative’ is wider in its meaning than ‘futures and options’. This write-up would emphasis on (iv) given above.

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