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Speculative Business Income - What is Speculative Income & How is it taxed

Updated on: 06 Jun, 2024 10:57 AM

Speculative income is a type of income not realized until after it has been earned. Speculative income is income that is based on some future event. Speculative income is earned income from a business activity in which the taxpayer has a substantial risk of losing money. Speculative income differs from ordinary income in that it is not an offset to capital investments or an increase in net worth. In other words, in order for income to be considered speculative, a taxpayer must be risking capital. The term as such is a complex one, and this article will give you a comprehensive guide to speculative income.

What is Speculative Income and Speculative Transactions?

Speculative income is a type of income that does not involve the actual delivery of a product or a service. This income is predicated upon the happening or non-happening of a future event. Since this type of income is completely speculative and unpredictable in nature, therefore, it involves a significant amount of risk. Speculative Income doesn’t have a precise meaning among the terms defined by the Income Tax provision, but the term derives itself from the phrase ‘speculative transaction’. It can be understood that the income is derived from speculative transactions. To understand speculative income, one must delve into an understanding of speculative transactions.

What is Non Speculative Business Income?

Non-speculative business income refers to profits earned from regular business activities. In comparison to speculative income, which involves profiting from short-term price movements of assets, non-speculative income comes from a business's core operations.

How Can One Understand Speculative Transactions?

Speculative income is a type of income not realized until after it has been earned. Speculative income is income that is based on some future event. For example, if you buy stock in a company, then you expect to receive dividends at some point in the future based on the amount you paid for shares.

One of the most common examples would be intra-day trading income. The term ‘intra-day trading’ means trading shares within the same day. Considering the case of intra-day trading in shares, one notices that, ultimately, there is no entry or exit from the trading account on the same date, and therefore, there is no entry into the DEMAT account at all. Thereby, there are no deliveries in the case of intra-day trading, can be referred to as speculative transaction.

What are the Exceptions to a Certain Transaction to be Considered as "Speculative"?

While there are many cases when a transaction can be deemed to be “speculative,” one must have a clear understanding of what cannot be considered speculative transactions, such as the following-

  • Hedging contract with respect to raw materials or merchandise – A person might enter into a contract in the course of his manufacturing or merchandise business in respect of the raw materials and merchandise to guard them against loss, which might be feared due to price fluctuations in future in respects to his contracts for actual delivery of the goods manufactured or merchandise sold by him. Thereby, the procedure of hedging a contract here means saving goods from future loss, and this is not a speculative transaction.
  • Hedging contract in the aspect of stocks and shares – Just like the above here the person is in a contract with his stocks and shares entered into by a dealer or investor to protect them against the loss due to future price fluctuations.
  • Forward contract – A forward market is defined as an over-the-counter marketplace place, and one of the main tasks here is to set the price of a certain financial instrument or decide an asset for future delivery. A forward contract is one that is entered into by a member of a forward market (or stock exchange) and, in the course of any transaction in the nature of jobbing or arbitrage, protects against any loss that might arise in the course of the business.
  • Trading in derivatives – An eligible transaction is a transaction carried out electronically through recognized brokers as defined per relevant statutes. This transaction is supported by a time-stamped contract note, which indicates a unique client identity number and PAN (Permanent Account Number). This transaction in respect of trading in derivatives is referred to in the Securities Contracts (Regulation) Act, 1956, and carried out in recognized stock exchanges.
  • Trading in commodity derivatives – An eligible transaction (same as defined above) is carried out with respect to trading commodity derivatives in a recognized association that is chargeable to the commodities transaction tax mentioned under Chapter VII of the Finance Act, 2013.

How is Speculative Business Treated to be a Distinct Variety of Business?

If a taxpayer operates many businesses in addition to a speculative business, the speculative business must be treated as distinct from any other business operated by the same taxpayer. Explanation 2 to Section 28 of the Income Tax Act, 1961 defines this term when the speculative business can be deemed as separate from the other businesses.

What is the Treatment of Loss from Speculative Business?

It is important to treat speculative business as a distinct and separate business in order to necessitate calculating loss provisions. Section 73 of the Income Tax Act states that the losses from speculation business can only be set off against the profits of the speculative business, and unlike this, it is quite unlikely that loss from any other business can be set off against the profits of other businesses. One must note that the losses from a speculative business can be carried forward to a subsequent year and can only be set off against the profit and gains of any speculative business in the respective subsequent year. Not only is it important to treat the speculative business as a separate and distinct business, but also the profits and losses as a result of the respective speculative business must be treated as separate and distinct from other profits and gains as a result of the business or profession.

One must make the note that loss from the speculative business cannot be carried forward for a period greater than four assessment years beyond the year in which the loss was incurred. Moreover, if there is any expenditure and depreciation in the process of scientific research, it is to be set off first if the depreciation or capital expenditure is carried forward in the speculative business.

How can one Understand Eligible Transactions for Security Derivatives?

An "Eligible Transaction" can be defined in the following two ways-

  • A transaction carried out electronically on screen-based through a stock-broker or a sub-broker or any such intermediaries registered under Section 12 of the Securities and Exchange Board of India Act, 1992 (15 of 1992) and done in accordance with all or either of the provisions of following rule and regulations and the bye-laws made of directions issued under those Acts or by banks or mutual funds on any of the recognized stock exchange-
    1. Securities (Regulation) Act, 1956 (42 of 1956)
    2. Securities and Exchange Board of India Act, 1992 (15 of 1992)
    3. Depositories Act, 1996 (22 of 1996)
  • A transaction that is supported by a time-stamped contract note as issued by such a stockbroker or sub-broker or such other intermediary to every client indicating in the contract note in the unique client identity number and PAN as allotted under any Act referred to in sub-clause (A).

How can one Understand Eligible Transactions for Commodity Derivatives?

"Eligible Transaction" for commodity derivative can be understood by the following two definitions and types of transactions-

  • A transaction carried out electronically on screen-based systems through a member or an intermediary, as registered under the bye-laws, rules, and regulations of the recognized associations for trading in commodity derivatives as per the provisions of Forward Contracts (Regulation) Act, 1952 (74 of 1952) and the rules, regulations or bye-laws made or directions issued under the Act on a recognized association.
  • A transaction supported by a time-stamped contract note which is issued by a member or intermediary to every client among other things in the contract note, the unique client identity number as allotted under the Act rules, regulations, and bye-laws as referred in sub-clause(A), unique trade number and permanent account number allotted under the Act.

Why Cannot a Single Transaction Constitute Speculative Business?

As per explanation 2 to Section 28, one understands that speculation business should be separate and distinct, while Section 43(5) defines what the term speculative transaction means. A juxtaposition of these facts indicates that Section 73 only applies when Speculative transactions constitute a business.

Thereby, the provisions cannot be applied unless the loss pertains to speculative business. In almost every section (especially explanation 2 of Section 28), there is a pluralized reference to speculative “transactions,” which indicates that if the speculative business is to be taken ahead within the parameters of the given explanation, a single transaction is insufficient unless there is a systematic or organized course of activity or conduct on the part of the assessee, it is clear that a single transaction is not possible. A single transaction done instead of actual delivery is not sufficient to stand by explanation 2 of section 28 of the Income Tax Act, 1961, and there should be a plural set of speculative transactions.

What is the Treatment of Losses in Speculation Business as Per Section 73 of the Act?

The loss as computed in respect of the speculation business as carried on by the assessee is not to be set off except against the profits and gains, of another speculation business.

The case when, for any assessment year, any loss calculated in respect of speculation business has not been entirely set off under sub-section (1), and much of the loss is not set off where the assessee had no income from other speculative business and thereby, is subject to other provisions of the chapter, thereby carried forward to the following assessment year-

  1. It shall be put against the profits, if any by the speculation business which is carried on by him and is assessable for that assessment year.
  2. If the loss made cannot be wholly set off, then the amount of loss shall be carried forward to the next assessment year.

In respect of allowances on the count of depreciation and capital expenditure which is made on account of scientific research, the provisions as per sub-section (2) of Section 72 are applied to speculation business as is done in any other business.

No loss is to be carried ahead beyond four assessment years which is immediately succeeding the year in which the loss was incurred.

One must consider that any part of the business or company in the purchase and sale of shares of other companies shall be deemed to be carrying on a speculation business to the extent to which the business consists of the purchase and sale of such shares.

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Frequently Asked Questions

Q- How do you calculate turnover for speculative business?

In the case of speculation business, the aggregate of both positive and negative differences is to be considered as the turnover.

Q- What is speculative loss?

A business transaction (i.e., purchase and sale) of goods is done where the delivery of goods is not affected. it is known as a speculative transaction. The loss in a speculative business transaction is termed a speculative loss.

Q- How is speculative income taxed?

As per Section 43(5) of the Income Tax Act, 1961, intra-day trading shall be considered as speculation business transactions, and the income therefrom would be either speculation gains or speculation losses. Income from speculation gains is taxed at normal rates.

Q- What is non-speculative business?

A transaction of purchase or sale of a commodity, including stocks and shares settled otherwise than by actual delivery or transfer of the commodity or scrip, is a speculative transaction. A business that consists of speculative transactions is called a speculative business. A business other than speculative business is called a non-speculative business.

Q- What is speculative trading?

Speculation is the act of trading in an asset or conducting a financial transaction that has a significant risk of losing most or all of the initial outlay with the expectation of a substantial gain. It involves trading in financial instruments involving high risk in expectation of significant returns. The motive is to take maximum advantage of fluctuations in the market.

Q- What are some of the exceptions to the speculative income?

There are certain transactions that may appear to be of a speculative nature but have been specifically excluded from the definition of speculative transactions are: Hedging contracts in respect of raw materials or merchandise, Hedging contracts in respect of stocks and shares, forward contracts and trading in derivatives and commodity derivatives.

Q- Which ITR is Used for Speculative Income?

Generally, ITR 3 is filed for reporting speculative business income or loss similar to that of normal business income.

Q- What are Some Recognized Stock Exchanges in India?

NSE (National Stock Exchange) and BSE (Bombay Stock Exchange) are among the most recognized stock exchanges in India.

Q- What is a Recognized Association?

Multi Commodity Exchange (MCX) Stock Exchange Limited and United Stock Exchange of India Limited are some important exchange associations based in India.

Q- How Should One Consider F&O in Shares and Commodities as a Speculative Business?

F&O in shares or commodities is not a speculative business, as discussed in the above sections, and is carried out in a Recognized Stock exchange or association respectively.

CA Abhishek Soni
CA Abhishek Soni

Abhishek Soni is a Chartered Accountant by profession & entrepreneur by passion. He is the co-founder & CEO of Tax2win is amongst the top 25 emerging startups of Asia and authorized ERI by the Income Tax Department. In the past, he worked in EY and comes with wide industry experience from telecom, retail to manufacturing to entertainment where he has handled various national and international assignments.