Golden rule for Setting off losses & Carry Forward of Losses

Golden rules for Setting off losses & Carry Forward of Losses

The Income Tax Act provides provisions for setting off and carrying forward losses, helping taxpayers minimize taxable income in the current year and future years. The golden rules for setting off losses based on various provisions of the Income Tax Act.

Definition and Distinction on setting off losses & Carry Forward of Losses

• Set Off of Losses: Allows taxpayers to offset losses from one source of income against income from other sources within the same financial year. This reduces the total taxable income.
• Carry Forward of Losses: When losses cannot be fully set off within the same year, they can be carried forward to future years and used to offset future income, within specified limits.

These provisions are essential for effective tax planning, allowing businesses and individuals to manage their tax liabilities over time. Here’s a breakdown of the key provisions related to setting off and carrying forward losses:

I Intra-head set-off 

Losses from one source of income can be set off against profits from another source within the same head of income. Intra-head adjustments first: Before setting off losses across different heads of income (inter-head), intra-head adjustments must be made. For example, losses within the “business” head must be adjusted against other income from business.

• Exceptions:
  • Loss from a speculative business cannot be set off against profits from a non-speculative business.
  • Long-term capital losses can only be set off against long-term capital gains, while short-term capital losses can be set off against both short-term and long-term capital gains.

II Inter-head set-off

• Losses from one head of income may be set off against income from another head, except for specific cases where restrictions apply.

III Carry forward of losses

• If losses remain unadjusted after intra-head and inter-head set-off, they can be carried forward to subsequent financial years. Losses can be carried forward and set off for eight subsequent financial years.

• Speculative business losses: Losses from speculative business activities cannot be set off against any other income, but losses from non-speculative business can be adjusted against income from speculative business.
• Capital gains/ Capital Losses : Losses under the head of “Capital Gains” cannot be set off against income from other heads of income (e.g., salary or business).
• Short-Term Capital Loss (STCL): Can be adjusted against both short-term capital gains (STCG) and long-term capital gains (LTCG). Can be carried forward for up to 8 years, provided the ITR is filed on or before the due date under Section 139(1).
• Long-Term Capital Loss (LTCL): Can only be adjusted against long-term capital gains (LTCG). Can also be carried forward for up to 8 years, subject to timely ITR filing.
• Long-term and short-term capital losses: Long-term capital losses can only be set off against long-term capital gains. Short-term capital losses can be set off against both short-term and long-term capital gains.
• Winnings from gambling, lottery, etc.: Losses cannot be set off against income from winnings from lotteries, crossword puzzles, horse races, gambling, or betting of any kind.
• Racehorse business losses: Losses from the business of owning and maintaining racehorses cannot be set off against any other income.

IV Exceptions:

Section 35AD specified businesses: Loss from speculative business, specified business under Section 35AD, horse racing, or capital losses cannot be set off against income from other heads. Losses from specified businesses under Section 35AD (e.g., setting up cold chains, warehousing for agricultural produce) cannot be set off against other income.

• Business and profession losses: Losses from business or profession cannot be set off against salary income.
• Exempt income: Losses from sources that generate exempt income (e.g., agricultural income) cannot be set off against taxable income.
• Carry forward of losses: If losses cannot be fully set off in a given year, the unadjusted losses may be carried forward to future years for adjustment against eligible income.

• Restrictions and Prohibitions : Speculative Losses: Cannot be set off against non-speculative income. House Property Losses: Limited to INR 2 lakh when setting off against other heads of income. Carried Forward Losses: Can only be set off against income of the same nature (e.g., carried forward business losses can only offset business income).

V Carry Forward of F&O Loss

• F&O trading is considered a business activity, even if it’s on a part-time basis. Income or loss from F&O trading should be reported under the head “Profits and Gains from Business or Profession”. The applicable ITR form for reporting such income is ITR-3. If the taxpayer opts for presumptive taxation under Section 44AD, they can report it under ITR-4, but this is rarely applicable for F&O traders due to its business nature.

• The profit from F&O trading is added to your total income and taxed according to the applicable tax slab rates of the individual taxpayer.  There is no special rate for F&O trading income; it’s taxed as normal business income.
• Set-off of F&O Loss : F&O losses can be treated as a non-speculative business loss. The loss can be set off against: Other business income (whether speculative or non-speculative).
• Income from other heads, such as: Rental income (House property income).  Interest income (Income from other sources). Capital gains.
• F&O losses cannot be set off against salary income.
• Carry Forward of F&O Loss. If the F&O loss cannot be fully set off in the current year, it can be carried forward for up to 8 years. In future years, this loss can only be adjusted against non-speculative business income (i.e., income from F&O or any other non-speculative business activities). Losses can only be carried forward if the ITR is filed within the due date as per Section 139(1).

VI Correct procedures for carried forward of loss

• Casual income: Losses cannot be set off against casual income like winnings from lotteries, gambling, etc.
• Timely filing of returns: Carry forward of losses is allowed only if the taxpayer files the income tax return on or before the due date under Section 139(1). Losses can only be carried forward if the return of income or loss is filed by the due date as prescribed under Section 139(1).
• Change in shareholding: In cases where there is a change in shareholding of companies (other than public companies), previous years’ losses may not be allowed to be carried forward unless specific conditions are met.

VII Time Limits for Carry Forward

Losses from Owning and Maintaining Racehorses (Section 74A) : Losses incurred from owning and maintaining racehorses can only be set off against future income from the same source. These losses can be carried forward for up to 4 years, provided the ITR is filed within the due date.

VIII Other Types of Losses

Business Losses (Non-Speculative): Can be carried forward for 8 assessment years. Capital Losses: Can be carried forward for 8 years, only offset against capital gains. Speculative Losses: Can be carried forward for 4 years and offset only against speculative income.

Section	Type of Loss	Set-Off Against	Carry Forward Period
71B	Loss from House Property	Income from House Property	8 Years
72	Loss from Business/Profession	Income from Business/Profession	8 Years
73	Loss from Speculative Business	Income from Speculative Business	4 Years
73A	Loss from Specified Business	Income from Specified Business (Section 35AD)	No time limit
74	Short-Term Capital Loss	STCG and LTCG	8 Years
74	Long-Term Capital Loss	LTCG	8 Years
74A	Loss from Racehorses	Income from Racehorses	4 Years

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