Set Off of Losses for Computing Gross Total Income

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The provisions for set off or carry forward and set off of losses are contained in sections 70 to 80 of Income-tax Act and it involves the following three steps.

Step 1: Inter source adjustments under the same head of income also known as intra head adjustment.

Step 2: Inter-head adjustment in the same assessment year at the time of aggregation of income of various heads.

Step 3: Carry forward of loss to the subsequent assessment years to claim it as set off if it could not be set off under Step 1 and Step 2.

Set Off of Losses for Computing Gross Total Income
Set Off of Losses for Computing Gross Total Income

1. Set Off of Loss from one source against income from another source under the same head of income [Section 70]

Where the net result for any assessment year in respect of any source, falling under any head of income other than “capital gains”, is a loss, the assessee shall be entitled to have the amount of such loss set off against his income from any other source under the same head. This may also be referred to as intra-head adjustment.

For Example:

If the assessee has two houses and the net income from one house is ₹.4,80,000 while from the other house there is a loss of ₹.3,00,000, the loss shall be adjusted against the income (as both fall under the same head i.e. ‘Income from house property’) and after set off, the income under the head ‘income from house property’ shall be ₹.1,80,000.

Following are the Exceptions:

However, there are certain exceptions to this rule. In the following cases loss from one source cannot be adjusted against income from another source of income although it falls under the same head:

(a) Loss from a Speculation Business:

As per section 73, any loss, in respect of a speculation business carried on by an assessee, shall be set off only against income of another speculation business. It cannot be set off from non-speculative business income, although speculation business also falls under the head ‘profits and gains of business or profession’. However, a business loss can be set off against income from speculation business but vice versa is not possible.

What is a Speculation Business?

To know what is speculative business we must first know what is a ‘Speculative Transaction’?

According to section 43(5) “Speculative Transaction” means a transaction in which a contract for the purchase or sale of any commodity including stocks and shares, is periodically or ultimately settled otherwise than by the actual delivery or transfer of the commodity or scrips.

(b) Loss of a specified business referred to in section 35AD:

As per section 73A, any loss computed in respect of any specified business referred to in section 35AD (e.g. business of cold chain facility, business of building and operating hotel, business of warehouse for storage of agricultural produce, etc.) shall not be set off except against profit or gains, if any, of any other specified business. It cannot be set off from any other business income.

(c) Loss from the activity of owning and maintaining race horses:

As per section 74A, the loss incurred by the assessee, in the activity of owning and maintaining race horses, shall only be set off against the income of such activity. It cannot be set off against the income from any other source.

(d) Loss an account of lottery, etc. cannot be set off against winnings from lotteries, crossword puzzles, card games, etc.:

No expenditure or allowance is allowed from winnings from lotteries or crossword puzzle, etc. Similarly, no loss from any lottery, card games, races, etc. is allowed to be set off from the income of the winnings of lotteries, crossword puzzles, card games, races, etc.

(e) Loss from a source which is exempt:

Loss incurred by an assessee from a source, income from which is exempt, cannot be set off against income from a taxable source.

(f) Capital losses:

Short-term capital loss can be set off from any capital gain (long-term or short-term) but long-term capital loss can now be set off only against long-term capital gain

W.e.f. A.Y. 2019-20 long-term capital gain for a transfer of equity shares listed or recognized stock exchange is now taxable @ 10% and hence if there is any long-term capital loss from these equity shares, such loss shall now be allowed to be set off from other long-term capital gain

Capital loss worked out by assessee with indexation can be set off against long-term capital gains computed without indexation. 

(g) Loss arising from the purchase and sale of securities not to be allowed in certain cases [Section 94(7)]:

Where –

(a) any person buys or acquires any securities or unit within a period of three months prior to the record date; 

(b) such person sells or transfers: 

(i) such securities within a period of three months after such date or 

(ii) such units within a period of 9 months after such record date;

(c) the dividend or income on such securities or unit received or receivable by such person is exempted,

then, the loss, if any, arising to him on account of such purchase and sale of securities or unit, to the extent such  loss does not exceed the amount of dividend or income received or receivable on such securities or unit, shall be  ignored for the purposes of computing his income chargeable to tax. 

Record date means such date as may be fixed by a company or a Mutual Fund or the Unit Trust of India for the purpose of entitlement of the holder of the securities or the unitholder to receive dividend or income, as the case may be.

(h) Bonus Stripping [Section 94(8)]:

Where –

(a) a person buys or acquires any units within a period of three months prior to the record date; 

(b) such person is allotted or is entitled to additional units on the basis of such units without making any payment; 

(c) he sells all or any of such units while continuing to hold all or any of the additional units within a period of 9 months after such date, 

then, the loss, if any, arising to him on account of such purchase and sale of units shall be ignored for the purpose of computing his income chargeable to tax. 

Further, the amount of loss so ignored shall be deemed to be the cost of purchase or acquisition of such additional units as are held by him on the date of such sale or transfer.

2. Set Off of Loss from one head against income from another head (Inter-Head Adjustment) [Section 71]

As per section 71(1), where in respect of any assessment year, if after setting off losses against income under  the same head, the net result of the computation under any head of income, other than “Capital gains” is a Loss, the  assessee shall be entitled to have the amount of such a loss set off against his income, if any, assessable for that  assessment year under any other head.

For instance, loss from business can be set off from income under the head house property and loss under the head income from other sources may be set off against profits of business, etc.

Further, as per section 71(2), where in respect of any assessment year, the net result of the computation under  any head of income, other than “Capital gains”, is a loss and the assessee has income assessable under the head  “Capital gains”, such loss may, subject to the provisions of this Chapter, be set off against his income, if any,  assessable for that assessment year under any head of income including the head “Capital gains” (whether relating  to short-term capital assets or any other capital assets). 

However, losses under the head ‘House Property’, ‘Capital gains’ and ‘Business or Profession’ shall be treated as under:

(1) Loss under the head business or profession [Section 71(2A)]:

Where in respect of any assessment year,  the net result of the computation under the head “profits and gains of business or profession” is a loss and the  assessee has income assessable under the head “Salaries”, the assessee shall not be entitled to have such loss set  off against such income. However, it shall be allowed to set off from income under any other head. 

(2) Loss under the head ‘Capital Gains’ [Section 71(3)]:

Such capital loss, whether short-term or long-term, shall not be allowed to be set off against income under any other head. It shall however be allowed to be carried forward. 

(3) Loss under the head income from house property allowed to be set off from any other head upto ₹2,00,000 [Section 71(3A)]:

Notwithstanding anything contained in section 71(1) or section 71(2), where in  respect of any assessment year, the net result of the computation under the head “Income from house property” is  a loss and the assessee has income assessable under any other head of income, the assessee shall be entitled to set  off such loss, to the maximum extent of ₹2,00,000, against income under the other head. The balance loss of income from house property in excess of Rs. 2,00,000 shall be carried forward to be set-off only under the head income from house property

Example: 

Suppose, in the previous year 2019-20, income from property A is ₹1,40,000 and from property B there is a loss of ₹4,80,000. Besides this, there is an income under the head salary amounting to ₹6,00,000. 

In this case, loss of ₹4,80,000 of property B will first be set off from income from property A to the extent of ₹1,40,000 as per section 70. The net loss of ₹3,40,000 under the head income from house property will be allowed  to be set off from income under the head salary to the extent of ₹2,00,000 as per section 71(3A) and the balance of  ₹1,40,000 shall be carried forward to claim it as set off from income under the head house property of the  subsequent assessment year. 

Inter-Head Adjustment towards Set-Off of Loss is not permitted in following cases: 

(a) Loss from a speculation business; 

(b) loss from a specified business referred to in section 35AD; 

(c) Loss from the activity of owning and maintaining race horses; 

(d) Loss of lottery, etc. cannot be set off against winnings from lotteries, crossword puzzles, card games, etc.; 

(e) Loss from a source which is exempt.

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