A Guide For Setting Off And Carrying Forward Capital Losses

Income Tax

When your returns from selling capital assets are less than the cost of acquisition and transfer expenses, you incur a capital loss. As it is unfair to charge taxes on losses, the Income Tax Act of India allows you to set off and carry forward losses. This lets you adjust losses against your income in the subsequent assessment years.

The following sections will explain the conditions and procedures to adjust capital losses. Read on.

An Overview of the Process to Set off and Carry Forward Losses

Depending on the head of income, including capital gains, salary, house property, business and profession or other sources, you can set off your capital losses. Losses from one investment can be set off against gains from another investment to reduce your taxable income. 

If you are unable to set off the entire capital loss in a single year, you can also choose to carry forward your losses. You can carry forward both short-term and long-term losses for up to 8 assessment years after the year when you incurred the first loss. 

Before you set off and carry forward capital losses, you may want to know the applicable rules.

Setting off Capital Losses

The process of setting off losses consists of two steps:

• Intra-head adjustment: Intra head adjustment is the process of adjusting losses from one source against another source under the same head of income. If you own two businesses, A and B, you can adjust losses from A against gains from B. 
• Inter-head adjustment: If a taxpayer incurs losses under a particular head of income and gains under another head of income, he can adjust his losses against gains. You can use this inter-head adjustment on the remaining amount after computing intra-head adjustment. For example, you can adjust losses from house property against your salary income. 

Individual taxpayers cannot set off losses under the head ‘capital gains’ against any heads of income. They can set off long-term capital losses only against long-term capital gains. In contrast, they can adjust short-term capital losses against both short-term and long-term capital gains.

Losses under the head ‘house property’ can be set off under other heads of income up to a maximum limit of Rs. 2,00,000 in an assessment year.

Also Read: What Are The Different Types Of Taxes In India?

Carrying Forward of Capital Losses

If you cannot set off your total losses in a year using the above-mentioned processes, you can carry it forward. According to Section 71B, you can carry forward unabsorbed losses and set them off in the next assessment year. 

To carry forward losses to the following year, you will have to file returns of income before the due date u/s 139. You also have to file returns in subsequent years to carry forward losses even if you do not have income for those years. 

Losses from business or profession can be carried forward for eight assessment years immediately after the first year when losses were incurred. However, you can set off such losses only under the business/professional head of income. In a similar way, you can set off losses from house property and short-term and long-term capital gains. 

How to Set off and Carry Forward Losses in an Assessment Year?

Follow the given steps to determine, adjust and carry forward losses:

Step 1: First, you will have to calculate losses under each source of income in an assessment year after claiming exemptions, if any. 

Step 2: After this, adjust losses against gains under the same head of income (intra-head adjustment) u/s 70.

Step 3: Calculate the inter-head adjustment u/s 71, wherever applicable for losses not fully set-off by the earlier step.

Step 4: For losses not absorbed by the above steps, you can carry it forward to the next assessment year. You will have to file Income Tax Returns (ITR) to carry forward losses. 

Losses carried forward can be set off only against the same head of income, i.e. intra-head adjustment.

Restrictions to Consider When Setting off and Carrying Forward Losses

• Losses from a particular source that enjoys tax exemption cannot be set off against gains from taxable income. 
• You cannot set off losses from businesses specified u/s 35AD against any other income but another specified business. 
• You cannot set off losses against gains from winnings of lotteries, card games, crossword puzzles, horse races or any other gambling game. 
• Losses from speculative businesses cannot be adjusted against any other income. However, you can set off losses from non-speculative businesses against gains from such businesses.
• Losses from business and profession cannot be set off against salary income.
• For specified businesses u/s 35AD, you can carry them forward against only another specified business. However, there is no limit to how many years you can carry such losses. 
• The maximum period for carrying forward losses from the business of owning/maintaining race horses is 4 years.
• You can carry forward losses from speculative businesses for only 4 years.
• These provisions for carrying forward losses are not applicable for unabsorbed depreciation. 

Also Read: Income Tax Rebate: Eligibility And Types Of Rebates In India

Final Word

The Income Tax Act allows individual taxpayers to set off their losses from one income against gains from another. But before you set off and carry forward losses, be aware of the rules discussed above.

Frequently Asked Questions

1. What is a speculative business u/s 43(5)? 

Section 43(5) defines speculative transactions as the practice of periodically setting contracts for the purchase/sale of any commodity without its actual delivery. The part of a company involved in such speculative transactions is said to operate a speculative business. 

2. What is a specified business as per definitions u/s 35AD?

These are certain businesses u/s 35AD eligible to receive special benefits/concessions from the government. Cold chain facilities, slum redevelopment housing businesses, warehousing for agricultural produce and hospitals with over 100 beds are some specified businesses. 

 3. What are the various losses that businesses can set off?

The following is a list of various losses that a business can set off:

• Depreciation in the current year 
• Unabsorbed depreciation
• Business/profession losses brought forward
• Unabsorbed and current year capital expenditure on scientific research
• Expenses on family planning (current year and unabsorbed)

4. Can you carry forward losses when a company/partnership has a change in its constitution?

You cannot carry forward losses when a partnership firm’s ownership changes due to a partner’s retirement or death. This applies to the portion of losses that the outgoing partner incurred. However, this is not applicable for unabsorbed depreciation, family planning expenses or capital expenditure on scientific research.

 5. When can anyone but the taxpayer carry forward losses?

The following are some situations where anyone but the assessee can carry forward losses:

• It is the accumulated business loss of a demerged company
• Loss accumulated by a recently inherited business
• Business loss of an amalgamating/demerged company
• Accumulated business loss of a proprietary concern/firm whose business was taken over u/s 47 (xiii) and (xiv)

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This article has been prepared on the basis of internal data, publicly available information and other sources believed to be reliable. The information contained in this article is for general purposes only and not a complete disclosure of every material fact. It should not be construed as investment advice to any party. The article does not warrant the completeness or accuracy of the information, and disclaims all liabilities, losses and damages arising out of the use of this information. Readers shall be fully liable/responsible for any decision taken on the basis of this article.