Taxation on Futures and Options (F&O) 

Futures and Options trading is popular among traders and investors looking to hedge risk or generate profits from price movements of options and stocks in the markets. However, the taxation of F&O transactions differs from equity investment instruments like stocks and mutual funds. In India, F&O trading is treated as a business income, making it subject to specific tax rules that traders should keep in mind..

Traders must be aware of how their F&O income is classified, the applicable tax rates, loss set-off rules, and tax return filing requirements to ensure compliance with the Income Tax Act, 1961. This guide will help you understand F&O taxation, its impact, and strategies to optimise tax liability.

Taxation on Futures and Options 

The gains made on delivery and mutual fund equity investments are classified as capital gains. Based on the type of asset and the holding period, short-term capital gains (STCG) tax and long-term capital gains (LTCG) tax are levied at different rates. 

F&O transactions, however, are treated as business income. Since F&O trading is done on recognised stock exchanges and is settled through clearing corporations, the income is categorised as non-speculative business income for taxation purposes. This classification means that F&O income is taxed at slab rates applicable to the individual or entity and requires maintenance of proper records for income tax purposes.

Key Aspects of F&O Taxation 

• F&O trading is considered business income, not capital gains.
• Both profits and losses are taxable as per business income rules.
• Losses from F&O trading can be carried forward and adjusted against future profits.
• Such losses are classified as non-speculative, and can’t be set-off against speculative business income, but only against non-speculative business loss (i.e. F&O trading income)
• Traders must file income tax returns under the business income category and maintain proper books of accounts as required under tax laws.

Income Classification for F&O

The Income Tax Act, 1961 classifies income from F&O trading as business income, making it taxable under the applicable income tax slab rates.

Non-Speculative Business Income 

F&O trading is categorised as non-speculative business income because:

• Transactions occur on recognised stock exchanges.
• They are settled without actual delivery of shares.
• Profit or loss is realised on expiry or settlement date.

Implications of Non-Speculative Business Income 

• Profits from F&O are taxed as per an individual’s slab rates.
• Business expenses such as brokerage, internet charges, software costs, and advisory fees can be deducted from your income.
• Traders may need to maintain proper financial statements and audit records if turnover exceeds ₹ 10 crore (as per the latest tax audit limits).

Tax Rates on F&O Transactions

Since F&O income is treated as business income, it is taxed at normal slab rates applicable to the taxpayer’s total income depending on whether you have opted for the old or the new tax regime. For companies and firms, F&O income is taxed at the corporate tax rate applicable to the entity type.

Impact of Holding Period on Taxation

Unlike equity investments, where holding periods determine short-term or long-term capital gains tax, F&O trading does not follow this rule.

• All F&O transactions are considered business income, regardless of the holding period.
• There is no separate short-term or long-term classification for tax calculation.
• Tax liability arises in the financial year in which the income is earned.

Tax Deducted at Source (TDS) on F&O 

• For individuals, no TDS is deducted on F&O profits.
• However, if F&O trading is conducted through a corporate entity or professional firm, TDS provisions may apply on payments to brokers or advisory services.
• Taxpayers must declare F&O income while filing their income tax returns (ITR) and pay advance tax, if applicable.

Taxable Events in F&O 

In F&O trading, taxation applies at specific events when a trade is executed and settled. Since F&O transactions are treated as business income, the following events result in tax liability:

• Profits from F&O trading: Fully taxable under the business income category.
• Losses from F&O trading: Can be set off against business income (non-speculative) and carried forward for future adjustments.
• Brokerage and transaction costs: Deductible as business expenses while computing taxable income.
• Open positions: Not taxed until they are squared off or expire.
• Expired options: Result in a recognised loss, which can be claimed as a business expense.
• Turnover: Absolute values of all your F&O trades’ profit and losses are added up during a financial year to arrive at the turnover from F&O business

To better understand taxable events in F&O, let’s take a detailed example covering different scenarios:

Assume you engage in multiple F&O transactions in a financial year:

1. Profitable Trade 
   • You buy Nifty Futures at ₹ 18,000 and sell it at ₹ 18,500.
   • Your total lot size is 50 units, so your total profit = (18,500 - 18,000) × 50 = ₹ 25,000.
   • This profit will become part of your F&O business turnover .
2. Loss-Making Trade 
   • You purchase Nifty Futures at ₹ 18,000 per lot and sell it at ₹ 17,500. 
   • The lot size is 50 units, so your total loss = (18000 - 17500) × 250 = ₹ 25,000.
   • This absolute value of this loss will become part of your F&O business turnover
3. Trade with Brokerage and Other Charges (Tax-Deductible Expense)
   • Your F&O trades resulted in a total of ₹ 2,000 in brokerage and transaction charges.
   • These costs are deductible from your F&O business turnover, reducing your taxable profit.
4. Open Positions at Year-End (No Taxable Event Yet)
   • Suppose you bought more Nifty Futures lots in Feb 2025, but the position remains open until April 2024.
   • Since the trade is not closed within the financial year, no taxable event occurs in FY 2024-25.
   • Taxation applies in the next financial year when the trade is settled.
5. Settlement Without Execution (Expiry Loss or Profit Taxable in Same Year)
   • You buy Put Options but let it expire worthless.
   • Your total premium paid is ₹ 3,000, which becomes a total loss.
   • The absolute value of the loss is recorded as the turnover in the financial year.

Set-off and Carry Forward of Losses 

One of the key tax benefits in F&O trading is the ability to set off and carry forward losses to future years.

Set-off Rules 

• F&O losses can be set off against other non-business income in the same financial year.
• If the taxpayer has insufficient business income, losses can be carried forward to be set-off against non-speculative business income.

Carry Forward Rules 

• Unadjusted F&O losses can be carried forward for 8 assessment years.
• They can only be set off against non-speculative business income in subsequent years.
• Taxpayers must file ITR before the due date to claim the carry forward benefit.

F&O and Capital Gains Tax

Since F&O trading is classified as business income, capital gains tax does not apply. This differentiates it from equity shares, where long-term capital gains (LTCG) and short-term capital gains (STCG) tax rates apply.

Filing Tax Returns for F&O Traders 

Traders must report their F&O income and losses while filing ITR. The applicable ITR forms are:

• ITR-3: For individuals and HUFs with business income from F&O trading.
• ITR-4: For presumptive taxation (under Section 44AD).

Key Requirements for Filing ITR for F&O

• Maintain profit and loss statements, brokerage reports, and transaction records.
• Determine turnover based on the sum of absolute profits and losses from trades.
• If turnover exceeds ₹10 crore, a tax audit by a Chartered Accountant (CA) is required.

Common Taxation Mistakes in F&O 

Many traders make errors in reporting F&O income, leading to tax complications. Some common mistakes include:

• Not declaring F&O losses, thereby losing the carry forward benefit.
• Misclassifying F&O gains as capital gains instead of business income.
• Failing to pay advance tax, leading to interest penalties.
• Ignoring tax audit requirements if turnover exceeds prescribed limits.

Conclusion 

Understanding F&O taxation is essential for traders to ensure compliance and optimise tax efficiency. As F&O income is classified as business income, traders must maintain proper records, set off losses strategically, and file their returns accurately. Consulting a tax professional can help navigate complex tax rules and minimise tax liability.

By keeping track of profit and loss calculations, business expense deductions, and loss carry-forward provisions, traders can ensure they meet tax obligations while maximising returns.