Understanding the tax implications of stock trading in India is essential for effective financial planning. The taxes you incur depend significantly on how long you hold your stocks and the type of trading you engage in.
In India, the classification of your trading activities, whether as day trading or long-term investing, determines your tax obligations.
Day Trading vs. Long-Term Investing
Day Trading involves buying and selling stocks within the same trading day. Traders typically close their positions before the market closes to mitigate overnight risks. This method often leads to numerous quick trades.
Long-Term Investing strategy entails buying stocks and holding them for years, aiming for long-term appreciation in value. Investors usually engage in fewer, more deliberate trades.
Day trading means making a lot of quick trades, while investing usually means making fewer, more careful trades. Day traders keep their stocks for a very short time, while investors hold onto them for longer.
The income tax rates can be different depending on whether the money made is classified as business income or capital gains.
Knowing the difference between day trading and long term investing is important for choosing your trading strategy, understanding how much risk you can handle, and figuring out your tax situation.
When you treat stock trading as your business
If you treat stock trading as a business, and you trade often, your earnings might be considered “business income.” This means you’ll pay income tax based on your tax bracket, which can range from 0% to 30%, depending on how much you earn.
You can deduct expenses related to trading, such as brokerage fees, internet and phone bills, office costs, and fees paid for trading software, from your total trading income.
Treating day trading as business income has different tax rules compared to capital gains. It allows you to deduct expenses, but you need to keep good records and follow the tax filing rules carefully.
When stock trading is not your business
When stock trading is not your business, it’s viewed as investing. Money made from selling stocks is called capital gains, which can be short-term or long-term.
If you sell stocks within 12 months of buying them, the gains are short-term and taxed at a flat rate of 20%.
If you hold stocks for more than 12 months, the gains are long-term. Any gains over ₹1.25 lakh in a financial year are taxed at 12.5%, and you won’t benefit from inflation adjustments.
TDS is not applicable on capital gains arising from the sale of shares. However, it may apply to other forms of income, such as dividends, for which TDS rate is 10%, if the dividend exceeds ₹5,000 in a financial year.
Carry forward and Set off of Losses
Short-term capital losses can be set off against both short-term and long-term capital gains.
Long-term capital losses can only be set off against long-term capital gains.
Any unutilized losses can be carried forward for up to eight years.
Clarification from CBDT on Classifying Income from Share Sales
Taxpayers can now choose how they want to classify their income from selling shares.
Once you make your choice, you need to stick with it in the following years unless there’s a big change in your situation. This choice only applies to listed shares or securities.
To help reduce disputes, the CBDT has provided some guidelines (CBDT circular no 6/2016 dated February 29, 2016).
If you decide to treat your listed shares as stock for business, your income will be considered business income, no matter how long you held the shares. The tax officer will accept this choice.
If you choose to treat the income as capital gains, the tax officer won’t challenge that, as long as you held the shares for more than 12 months.
However, once you make this choice for a specific tax year, you must continue to use it in future years. You cannot change your mind later.
For all other cases, whether your income is classified as capital gains or business income will depend on how much trading you do and your intention to hold shares as investments or stock.
These guidelines aim to prevent unnecessary questions from tax officers about how to classify your income.
Tax Filing Requirements for Traders
Report capital gains on your income tax return under the appropriate sections. If you have business income from trading, you’ll need to file the relevant forms, which may include a balance sheet and profit & loss statement.
Consider tax-saving strategies, such as holding stocks for more than a year to benefit from lower LTCG rates or utilizing losses to offset gains.
Report your trading income as business income in your income tax return (ITR-3 or ITR-4, depending on your situation).
In case of capital gain, you need to report it either in ITR-2 (for individuals earning capital gains without business income) or in ITR-3 (if you also have business income).
If you incur losses from day trading, these can be set off against other business income. If the losses exceed the income, you can carry them forward to offset against future business income for up to eight years.
Best Practices for Record Keeping
Maintain accurate records of all transactions, including purchase and sale dates, amounts, and associated costs. This documentation is essential for calculating gains/losses and for filing your tax return
If your turnover exceeds a certain threshold (₹1 crore for a business), you may need to maintain formal books of accounts and get them audited under section 44AB of the income tax act, 1961.
If your income exceeds the threshold for mandatory audit, you will need to have your accounts audited by a chartered accountant.
Navigating the tax implications of stock trading in India can be complex, but understanding the differences between day trading and long-term investing is essential.
By classifying your income correctly, maintaining accurate records, and adhering to filing requirements, you can optimize your tax situation and enhance your financial planning.
