After covering various miscellaneous and presumptive provisions in the Income Tax Act in this section, we turn our attention to the treatment of losses.
The Income Tax Act classifies income under the following five heads:
- Income from house property,
- Profits and gains of business or profession,
- Capital gains, and
- Income from other sources
The general rule, as defined u/s 70 allows an individual to set off loss from any source of income against income from any other source under the same head. Thereafter, Sec 71 allows balance losses, if any, under one head of income to be set off against income under any other head. The excess loss, if any, can be carried forward for 8 subsequent years immediately succeeding the year for which the loss was first incurred, but under the same head.
The Punjab & Haryana High Court, in the case of B.C.S. Kartar Chit Fund & Finance Company Pvt Ltd. v CIT  179ITR137 has observed that where losses sustained are not set off against the profit of the immediately succeeding year, they cannot be set off at a later date.
There are four exceptions to the general rule:
1. Loss from gambling can be neither offset against income from any other source nor carried forward. However, u/s 74A(3), loss incurred in owning and maintaining horses after setting off the stake money, if any, can be carried forward for set off against income from the same source for four subsequent years.
2. U/s 73, loss from speculative business can be set off only against income from speculative businesses. The net loss can be carried forward for only four years for set off against the profits and gains only from the respective businesses.
3. Business loss cannot be set off against salary income but it can be set off against any other income, including capital gains.
4. U/s 74, a loss under the head capital gains can be set off only against capital gains and not under any other head. Moreover, any long-term loss cannot be set off against short-term gains.
For clarity, consider the following situations:
Case-1: Only short-term gains
This has to be added to normal income. Consequently, all the deductions are admissible. Equity-based STCG is charged to tax as a separate block @15 per cent. Any business loss can be set off against capital gains but not vice versa.
Case-2: Only long-term gains
LT gains are charged to tax u/s 112 as a separate block. Any business loss can be set off against capital gains but not vice versa.
Case-3: Only short-term loss
ST loss cannot be set off against income under any other head. It has to be carried forward.
Case-4: Only long-term loss
LT loss cannot be set off against income under any other head. It has to be carried forward.
Case-5: Short-term loss and long-term gains
The ST loss should be set off against LT gains. If this results in gains, treat it as in case-2. If the result is a loss, it should be carried forward as in case-3.
Case-6: Short-term gain and long-term loss
Pay tax on ST gain (case-1) and carry forward LT loss (case-4).
Case-7: Short-term loss and long-term loss
Both should be carried forward separately for future set offs.
Case-8: Short-term gains and long-term gains
Apply case-1 for ST gains and case-2 for LT gains.
A difficulty. If an assessee has earned a ST or LT gain of say Rs 40,000 and has no other income, there is no tax payable, since the gains are below the threshold. However, if he has in addition suffered a loss of say Rs 60,000, he can carry forward only Rs 20,000. This is not jurisprudence.
The authors, A.N. and Sandeep Shanbhag, are leading financial advisors. Write to them at email@example.com