F&O/Derivative Trading: Speculation or Business…..??

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In Derivative Trading (F&O) in shares and stocks as well as commodities, the trader enters into the contract to purchase or sell shares/stocks or commodities on a particular date in future at the price prevailing on that date. Trader can square up the position before that date also and the gain or loss in the trade is being charged or credited to Traders Account.

In case of future and option contracts the trade contract is normally squared up without physical delivery of stocks/shares or commodities.

Except a few situations this income or loss in F&O or Derivative Trading is speculative in nature. Traders tend to consider it as a Business profit or loss and in case of loss it is generally seen that traders want to set off their profit of other business against this loss in F&O or Derivative Trading.

This confusion may be clarified if we study the meaning of speculative transaction as per section 43(5) of Income Tax Act.

“Speculative transaction means a transaction in which a contract for trading of any commodity including shares and stocks is being settled periodically or in totality in one time otherwise than by actual delivery or transfer of shares/stocks/commodity.”

But there are some exceptions to above definition where the above said transaction would not be considered as speculative transactions. These exceptions are listed in clause a, b, c, d, e of section 43(5) of Income Tax Act.

  • When a trader or a manufacturer enters into such derivative contract to safe guard against price fluctuation in the contracts of his trade or merchandise. Or
  • If a trader enters into derivative or F&O contract to safe guard his holding of shares and stocks against price fluctuations. Or
  • A contract entered by a member of forward market or stock exchange i.e. a share/stock broker to guard against losses of the business of such member of stock exchange. Or
  • Eligible transactions in respect of trading in derivative as referred in clause (ac) of section 2 of Securities Contract & Regulation Act 1956 being carried in a recognized stock exchange. Or
  • An eligible transaction – commodity derivative – being carried out in recognized stock exchange – which are chargeable to commodity transaction tax.

Transactions referred in above 5 cases clause a to e are not deemed to be speculative transactions.

It means if derivation or F&O transactions are entered into recognized stock exchange with properly stamped contracts then loss in such transaction is considered to be normal business loss and can be set off against the income or gains of other business.

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