How To Gain From Losses in Stock Market

Are you aware of what the Income Tax Act says about setting off losses against other heads of income. Sonu Soni Iyer and Santdas Wadhwani explain the provisions

If, during a year, loss has been incurred in one source of income and there is profit in another source of income and both these incomes fall under the same head, for example, house property, business & profession, capital gains or other sources, then such a loss can be set off against that income while computing income tax.

Such a set-off is known as an intra-head set-off. Therefore, loss from one business can be set-off against income from another business; and loss from one house property can be set-off against income from another house property. To illustrate: Consider the case of Kavita who has incurred a loss of Rs 20,000 from her small business as a florist. But during the same year, she has earned professional income of Rs 300,000.

Since both incomes fall under the same head, i.e., ‘business & profession’, the loss of Rs 20,000 can be set-off against her professional income and Kavita’s total taxable income for the year shall be Rs 2,80,000.

Exceptions to the above are capital loss and loss from speculation business. Long-term capital loss is a loss incurred on account of sale of a capital asset, which has been held for more than 36 months. In the case of shares and listed mutual funds, the loss is considered a long-term loss if the shares have been held for more than 12 months.

Long-term capital loss can be set off only against long-term capital gains. If the individual’s longterm capital gains in the same financial year are insufficient to set off the entire loss, then the balance loss can be carried forward and set-off against the long-term capital gains of the next eight financial years.

However, long-term capital loss from sale of listed shares and equity-oriented mutual funds on which securities transaction tax (STT) has been paid cannot to be set off since the capital gains from these are statutorily exempt. Short-term capital loss can be set off against short-term capital gains as well as long-term capital gains.

Inter-Head Set-Off

Loss under one head of income can also be set-off against income under another head and this is known as an inter-head set-off. For instance, if an individual has suffered a loss from house property, it can be set-off against his salary income.
However, an inter-head set-off of loss is subject to the following exceptions:

Business & professional loss cannot be set-off against salary income. To illustrate: Consider the case of Dr Kapur who has incurred a loss of Rs 50,000 in his private practice. However, as an employee in a private hospital he has also earned a salary income of Rs 200,000 during the year. In this instance, the loss incurred by him in his private practice cannot be set-off against the salary income, but may be set-off against other heads of income in the same year.

Long-term capital loss can be set-off only against long term capital gains. Short-term capital loss can be set-off against short-term capital gains or long-term capital gains. Loss from speculation business can be set-off only against income from speculation business.

Carry Forward Of Loss

If a loss could not be set off entirely in one year due to insufficiency of income, then it can be carried forward to the next eight financial years and set off against incomes of those years falling under the same head of income. To illustrate, Gaurav has incurred business loss of Rs 50,000 during the financial year (FY) ’06 and has made a business profit of Rs 4,00,000 in the next financial year, i.e., FY07.

The loss of Rs 50,000 can be carried forward to FY07 and set off against Rs 4,00,000. Thus, Gaurav’s taxable business income for FY06-07 shall be Rs 3,50,000. However, the above law of carry forward of loss has the following exceptions: Business loss on account of depreciation can be carried forward for unlimited number of years.

Speculation loss can be carried forward only up to the next four years. Business loss and capital loss are allowed to be carried forward only if the income tax return is filed on time and therefore, in case a setoff of these losses is desired, the taxpayer must file the tax return before the due date.

Further, the individual who is claiming the set-off must be the same individual who has suffered the loss. One individual’s loss cannot be set-off against another individual’s income. Therefore, taxpayers are advised to plan their transaction in a manner that losses are effectively utilised to achieve the best tax results.