The tax return-filing season is here again. It’s a good time to brush up on some useful concepts that could help us pay less to the taxman. Say hello to set-off and carry-forward of losses. Set-off lets you adjust loss against income earned, and reduce the tax outgo.

Carry-forward means that losses that are not fully adjusted in a year can be taken ahead to coming years for set-off purposes, thus reducing tax outgo in the future. These benefits are provided under Sections 70-74 of the Income Tax Act. But like most things tax, they come with restrictions and strings attached.

Basics

There are five heads of income as per the income tax law — salary, house property, business or profession, capital gains and other sources. While you cannot make loss on salary, you sure can end up with losses under the other heads of income. It’s also possible that under the same head, you have loss from one source and income from another, resulting in a net loss/income under the head. For instance, you can have income from house property ‘A’, but suffer loss on property ‘B’. Or you can make capital gain on selling shares of company ‘C’, but suffer loss while exiting shares of company ‘D’.

If a source of income is exempt from tax, then the loss from such source cannot be set off or carried forward.

For instance, agricultural income is exempt from tax and loss from agricultural activity cannot be adjusted.

Hierarchy

Next, for losses eligible for set-off and carry-forward benefits, there’s a sequence to be followed. To begin with, you have to first adjust losses within the same head of income — this is known as inter-source or intra-head adjustment.

For instance, loss from a source under a particular head (say, business ‘E’) should first be set off against income from a source under the same head (say, business ‘F’).

If after this intra-head adjustment, there remains unadjusted loss, it can be set off against income under other heads — this is called inter-head adjustment. For instance, loss from house property adjusted against income from salary.

If after such intra-head and inter-head adjustments, the loss is still not fully adjusted, it can be carried forward to future years for set-off.

Restrictions on set-off

Capital losses, for instance, can be set off only against capital gains, and not against any other income head. Also, while short-term capital loss can be set off against both short- and long-term capital gains, long-term capital loss can be set off only against long-term capital gain.

Similarly, losses from owning and maintaining race horses can be set off only against gains arising from such activity, and not against any other income.

So is also in the case of loss from card games, lotteries, etc, which can be set off only against income from such activity. Likewise, speculative business loss can be set off only against gains from speculative business.

Besides, loss on other business/profession cannot be set off against salary income. Also, winnings from lottery, card games, etc, cannot be used to set off any other loss other than loss from such activity.

Loss on house property has the most flexibility. Such loss is incurred due to interest cost on housing loans. It can be set off against any income from house property and then against any other incomes except those from lotteries, cards, etc. But with effect from this assessment year (2018-19), loss under house property can be set off against any other head of income only to the extent of ₹2 lakh. The unabsorbed loss, though, can be carried forward for set-off in subsequent years.

Until March 31, 2018, long-term capital gains on listed equity instruments (held for more than 12 months) were exempt from tax. So you were also not allowed set-off or carry-forward of long-term capital loss on sale of such instruments.

But from April 1, 2018, long-term capital gains on such equity instruments exceeding ₹1 lakh are taxed at 10 per cent. Along with this, long-term capital loss arising from sale of such instruments on or after April 1, 2018, can be set off and carried forward.

But there are two key restrictions to set-off losses that are carried forward to future years. One, carry-forward losses can be set off only against income under the same head. For instance, if you carry forward loss from house property, it can be set off only against income from house property.

Besides, losses can be carried forward for a maximum of eight years in the case of loss from house property, capital loss and non-speculative business loss.

File on time

Make sure you file your tax returns by the due dates to carry forward your capital loss or loss on business or profession.

But loss from house property can be carried forward even if you delay filing the tax return.

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