With more than a month gone by, the new Financial Year 2025-26 has witnessed unexpected highs and lows already. As the Indian citizens begin preparation to file the Income Tax Returns for the current assessment year, it is imperative to understand an important concept under the word ‘Income’, which is essentially the It-word for every financial transaction.
The income earned by any taxpayer is primarily categorised under five major heads;
- Income from salary
- Income from house property
- Profits or gains of business/profession (PGBP)
- Income from capital gains, and
- Income from other sources
Right classification of income plays a crucial role as when filing the returns to avoid any miscalculations with respect to the deductions, incentives, and applicable taxes. In the matters pertaining to capital gains, any stock market investor who is in the act of trading expects good return on investment. The long-term and short-term capital gains hugely determine the actual income accrued over the year and the profit or loss booked by the traders. However, the act of trading has always had some ambiguity with respect to the income earned, whether it’s classified as a business income or capital gain. If a transaction is classified as a business one, it calls for further classification as speculative or non-speculative.
What is Speculative Income?
An income that is not realized until it is actually earned is termed as ‘Speculative’ income. It does not involve the actual delivery of a commodity, product or a service. This income is dependent upon the occurrence or non-happening of a future event.
Since this type of income is completely speculative as the name indicates, it involves a significant amount of risk of losing money. This phrase does not have a clearly defined and precise meaning under the Income Tax provision and is thus understood in a general parlance. This type of income is derived from speculative transactions. It is quite distinctive in nature, as it does not compensate for capital investments or grow the net value like in the case of traditional income sources. For any income to be considered as speculative, a taxpayer must have put certain capital at risk. 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.
What is a Speculative Transaction?
A speculative transaction is a transaction of purchase or sale of a commodity, including a listed company’s stocks and shares which is settled by means other than the actual delivery or transfer of the commodity. What sets speculative and regular business income apart from each other is the taxability component and the time period for which you can carry forward the losses incurred as speculation income.
One of the most common examples would be intra-day trading income. In this type of a transaction, there is no actual delivery as you buy the shares and sell them from the trading account on the same date and do not receive the actual delivery of shares in your DEMAT account. Since no actual delivery of shares takes places, such a transaction is classified as a speculative one. Therefore, based on the above definition it can be inferred that intra-day trading income is a type of speculative income.
What is Speculative Trading?
Speculation is an act of trading a commodity or undertaking a financial transaction which contains a significant risk of losing most or all of the initial investment, with the intention of registering a considerable amount of profit. The goal is to make profit as much as possible from the unpredictable market changes.
How is Speculative Income Taxed?
Intra-day trading is deemed as a speculative business transaction under Section 43(5) of the Income-Tax Act of 1961. The money derived from it is accounted either as speculation gain or a loss. Profits from speculating transactions are taxed at regular rates only. However, losses from such transactions are allowed to be carried forward only for a period of up to four years.
Generally, ITR-3 is selected while filing the returns for sharing details on the speculative business income or loss, similar to that of normal business income.
Exceptions for a Transaction to be Considered as Speculative Income:
Not every financial transaction carried out by an investor (businessman or regular trader) is counted as speculative in nature. There are certain cases where the buy-and-sell incident is excluded from being treated as a speculative one. Some of them are-
- Hedge Contract (Raw Material & Merchandise) – Any businessperson may incur an unexpected loss in case of future price fluctuations with respect to goods manufactured or merchandise sold. To protect oneself against such a loss, he/she may enter into a contract to hedge (safeguard) against any price fluctuations of raw materials or merchandise.
- Hedge Contract (Stocks & Shares) – This exception involves guarding against any loss arising due to price fluctuations in stocks and shares. Such a contract by a dealer or an investor is not considered as speculative in nature.
- Derivative Trading – A derivative is a financial contract between two parties in which the value is derived from an asset, index, or rate. The price of the contract changes in response to the fluctuations in the value of the underlying asset. Common examples include futures, forwards, options and more. It is accounted under the Securities Contracts (Regulation) Act, 1956 and is carried out by a recognized stock exchange. Such a transaction is out of the gamut of speculative income.
- Forward Contract – This is a contract entered into by a member in the trading sector, during the course of any transaction involving an arbitrage (purchase of commodity in one market for immediate sale in another market) to guard against a loss which may arise in the ordinary course of business. A forward market is an over-the-counter marketplace that sets the price of a financial asset for future delivery. Any change offered in a such a contract is not accounted under speculative income.
While speculative income offers exciting possibilities, it’s important to note the associated risks:
- Without proper risk management, traders can lose a major chunk of money.
- The uncertainty and quick decision-making can lead to emotional stress.
- Temptation to trade frequently can lead to unforeseen losses and high transaction costs.
- Some markets have strict rules regarding trading so it’s important to understand the associated regulatory risks and minimize the losses.
To conclude, speculative income in trading is a high-risk and high-reward category that can yield significant financial gains when undertaken with acumen, knowledge and a proper understanding of the market. Individuals with a strong appetite for risk tolerance may find speculative trading a viable and an appealing path in the financial world.