How to calculate Turnover for Tax Audit u/s 44AB in case of Options

Introduction:

Tax Audit has always been an issue of concern for stock traders, especially for those who are engaged in trading futures & options. The provisions for tax audit are prescribed by section 44AB of the Income Tax Act, 1961 which gives a minimum turnover threshold for compulsory audit in case of any business or profession.

F&O traders are always confused about how to calculate their turnover for deciding whether a tax audit is required in their case or not. We had discussed “Taxation of Future & Options” in a previous article: https://www.taxwink.com/blog/taxation-of-future-options. But since publishing this article, there are some new developments that have changed the mechanism of calculation of turnover in the case of Options trading. This article is intended to guide you about such changes in the turnover calculation in the case of Options Trading.

Why has the method of calculating turnover in options changed?

The premier body of accounting in India “The Institute of Chartered Accountants of India” has clarified the definition of turnover in the transaction of options in its latest (Eight Edition) Guidance Note release on Tax Audit u/s 44AB of the Income Tax Act, 1961 on 19^th August 2022. The said clarification has changed the earlier mechanism of turnover calculation as prescribed in the 7^th edition of the said Guidance Note issued by ICAI.

How to calculate the turnover in the case of options trading?

Turnover calculation- 7^th Edition of Guidance Note issued by ICAI	Turnover calculation- 8^th Edition of Guidance Note issued by ICAI
The total of favorable and unfavorable differences shall be taken as turnover.	The total of favorable and unfavorable differences shall be taken as turnover.
Premium received on the sale of options is also to be included in turnover.	Premium received on the sale of options is also to be included in turnover. However, where the premium received is included for determining net profit for transactions, the same should not be separately included.
In respect of any reverse trades entered, the difference thereon should also form part of the turnover.	In respect of any reverse trades entered, the difference thereon should also form part of the turnover.

According to the 7^th edition of Guidance Notes, the premium received on the sale of options was to be included in the turnover. Therefore, while calculating the turnover for options trading, absolute profit plus premium received was taken as “Turnover”.

However, the 8^th edition of Guidance Notes issued by ICAI states that the premium received on the sale of options was to be included in the turnover. However, if that premium has already been included while calculating the net profit, it need not be separately included. Thus, the absolute profits will be treated as options turnover.

In Simple Words,

Options Turnover will be:

7^th edition of Guidance Note	8^th edition of Guidance Note
Absolute Profit + Premium on sale of options	Options Turnover = Absolute Profit

Practical examples to understand the calculation of Option Turnover:

Mr. Ramesh made the following Option Trading transactions:

Bought 2 lots of call option 1000 shares of A Limited for Rs. 40 & sold at Rs. 50
Bought 1 lot of put option, lot size 500 shares of X Limited for Rs. 50 and sold at Rs. 45
Sold 1 lot of Call option, lot size 1000 shares of Y Limited for Rs. 60, and option not squared off on expiry so delivery is given

Name of Share	Nature of transaction	Lot purchased	Buy Value	Sales Value (Premium received on Sale)	Gain / (Loss)	Turnover as per GN 2022	Turnover as per GN 2014
(1)	(2)	(3)	(4)	(5)	(6)	(7) =(5)-(4)	(8) = (5)+(6)
A Limited	Call Option	2*1000 =2,000	80,000	100,000	20,000	20,000	1,00,000 + 20,000 = 120,000
X Limited	Put Option	1*500= 500	25,000	22,500	(2,500)	2,500	22,500 + 2500 = 25,000
Y Limited	Call Option (Not squared off)	1* 1000 = 1,000	–	60,000	–	60,000	60,000
Total						82,500	2,05,000

Note: As you can see that in the first 2 cases, the options have been squared off so we have taken profit/ loss in absolute terms as turnover. Since the premium on option sales is already considered in calculating profit/ loss, we have not again included it in turnover as per the 8^th edition of the Guidance Note.

In 3^rd case, the call option is not squared off on the expiry and the physical delivery is given, the premium received on the sale of the option is not included in determining profit/ loss. Therefore, Turnover will be equal to the premium received on the sale of the option.

Concluding Note: From the above table, we can see that turnover calculated after the revised edition of the Guidance note will be lesser as compared to the previous methodology. This will certainly reduce the chances of tax audit requirements for options traders. As we are aware that the limit for a tax audit is INR 1 crore (INR 10 crore on fulfillment of certain conditions).

However, when the premium on option sale will not be included in the turnover, there’s a good possibility of turnover not breaching the threshold limit of INR 1 crore/ 10 crore thus relaxing tax audit requirements. This will reduce the compliance burden on options traders and will encourage more traders to go for options trading in the future.

About Author: The article has been contributed by Mr. Naveen Goyal who is a Chartered Accountant and has experience of more than 15 years in direct & indirect taxes including GST. He has a passion for writing and is contributing articles on various legal issues relating to taxation.

Disclaimer: The information contained in this article is meant only for educational purposes and thus has no persuasive value. Readers are, therefore, requested to act diligently and under consultation with any professional before relying upon the information contained in this article.

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