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Tax cushion for losses through trading errors
January, 19th 2009

There is a sliver of cheer for brokerage houses grappling with shrinking revenues. The outcome of legal disputes between stock broking firms and Income-Tax department on the treatment of losses arising from dealing errors may provide some breather to the broking industry.

Moreover, policymakers could view the rulings as a yardstick for amending Section 73 of the Income Tax Act. UBS Securities and BLK Securities have secured rulings in their favour.

According to Section 73 of the I-T Act, a company is said to indulge in speculative behaviour to the extent that it purchases and sells shares of other companies. Therefore, losses arising from such transactions are treated as speculative losses.

However, broking houses have occasionally suffered losses on account of dealing errors involving the punching of wrong quantity, price and instructions ('buy' instead of 'sell' and vice-versa) into the trading terminal.

If a trading error is confirmed at the end of the day, the broker reverses the order by taking a hit and claiming it as business loss for tax purposes.

Broking firms have been demanding that since the transactions are done on behalf of clients, the losses arising from dealing errors should be treated as business losses. But the I-T department treats these as speculative losses under section 73 and disallows them to be set off against other business income.

"Since the transactions are not undertaken on behalf of share broking firms themselves, section 73 of the I-T Act is not
applicable and such losses should be considered as business expenses," said a partner at a leading law firm.

"For tax purposes, a speculative loss can be squared off against a speculative gain and a trading business loss can be adjusted against trading business gains. A trading business loss can be carried forward for eight years, while a speculative business loss only has a 4-year window. Hence, it is better for the broking firm to term losses in dealing errors as trading losses," explained a chartered accountant, who did not wish to be named.

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