Module 7   Markets and TaxationChapter 6

Turnover, Balance Sheet, and P&L

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6.1 – Turnover & Tax Audit

In the previous chapter, we discussed briefly on tax audit, and when it is required if you are declaring trading as a business income. To determine if an audit is required or not, we need to first determine the turnover of your trading business.

Reiterating – the requirement of calculating turnover arises only when treating trading P&L as a business income (An audit is not required if you only have capital gains income irrespective of the turnover). Turnover is only to determine if a tax audit is required or not. Your tax liability does not get affected by your turnover.

An audit is required if –

  • Rs 5 Crores mark – Turnover for the year crosses the Rs 5 crores. Note, the Rs.5 Crore limit is applicable from the next financial year i.e. 2019 – 2020. This is in the case of digital transactions, and stock market trading is 100% digital.
  • Section 44AD – If the turnover is less than Rs 2 crore, and if profit less than 6% of turnover and total income exceeds basic exemption limit (this section applies only if person’s taxable income other than the loss from trading is more than the taxation slab) An audit is not required if turnover is less than Rs 5 crores but your total income is within the taxable limit of Rs 2.5lks. (This limit was extended to Rs 5 crores for FY 2019 – 20).

Note: The turnover value has been changed to 5 crores after the introduction of the Finance Bill 2020, effective from the FY 2019-2020 an audit is only required to be conducted if the turnover crosses the 5 crores limit.

I am sure the first thing that came to your mind after reading turnover is contract turnover, i.e

  • Nifty is at 8000, you buy 100 Nifty
  • Buy-side value = 8000 * 100 = Rs.800,000/-
  • Nifty goes to 8100, you square off the 100 Nifty
  • Sell-side value = 8100 * 100 = Rs,810,000/-
  • Turnover = Buy-side value + Sell-side value = 800,000 + 810,000 = 1,610,000/-

But it is not the contract turnover the IT department is interested in; they are interested in your business turnover.

Read below on how business turnover can be calculated –

The method of calculating turnover is a debatable issue and what makes it a grey area is that there is no guideline as such from the IT department. One article of great help though is the guidance note on tax audit under Section 44AB by ICAI (Institute of chartered accountants of India, the governing body for CA’s). The article on Page 23, Section 5.12 of this guidance note has a guideline on how turnover can be calculated. It says:

  • Delivery based transactions

For all delivery based transactions, where you buy stocks and hold it more than 1 day and sell them, the total value of the sales is to be considered as turnover. So if you bought 100 Reliance shares at Rs 800 and sold them at Rs 820, the selling value of Rs 82000 (820 x 100) can be considered as turnover.

But remember that the above calculation of turnover for delivery trades is only applicable if you are declaring equity delivery based trades also as a business income. If you are declaring them as capital gains or investments, there is no need to calculate turnover on such transactions. Also, there is no need for an audit if you have only capital gains irrespective of turnover or profitability.

  • Speculative transactions (intraday equity trading)

For all speculative transactions, aggregate or absolute sum of both positive and negative differences from trades is to be considered as a turnover. So if you buy 100 shares of Reliance at 800 in the morning and sell at 820 by afternoon, you make a profit or positive difference of Rs 2000, this Rs.2000 can be considered as turnover for this trade.

  • Non-speculative transactions (Futures and options)

For all non-speculative transactions, the article says that turnover to be determined as follows –

  • The total of favourable and unfavourable differences shall be taken as turnover
  • Premium received on sale of options is also to be included in turnover
  • In respect of any reverse trades entered, the difference thereon should also form part of the turnover.

So if you buy 25 units or 1 lot of Nifty futures at 8000 and sell at 7900, Rs.2500 (25 x 100) the negative difference or loss on the trade is turnover.

In options, if you buy 100 or 4 lots of Nifty 8200 calls at Rs.20 and sell at Rs.30. Firstly, the favourable difference or profit of Rs 1000 (10 x 100) is the turnover. But premium received on sale also has to be considered turnover, which is Rs 30 x 100 = Rs 3000. So total turnover on this option trade = 1000 +3000 = Rs 4000.

The above calculations (points 1 to 3) are fairly straight forward; the next important thing to decide though is if you want to calculate turnover scrip wise or trade wise.

Scrip wise is when you calculate the turnover by collating all trades on the particular contract/scrip for the financial year, find average buy/sell value, and then determine the turnover using the above 3 rules with the total profit/loss or favourable/unfavourable difference on this average price.

Trade wise is when you calculate the turnover by summing up the absolute value of profit and loss of every trade done during the year and following the above rules.

Let me explain both with some examples –

  1. 100 Nifty Jan future bought at 8000 and sold at 8100 on 1st Another 100 Nifty Jan future bought at 8100 and sold at 8050 on 10th Jan. Determine turnover

Using scrip wise:

Average Nifty Jan Fut buy: 200 Nifty Buy at 8050

Average Nifty Jan Fut sell: 200 Nifty Sell at 8075

Total profit/loss = 200 x Rs 25 = Profit of Rs 5000 = Turnover of Nifty Jan Futures

Using trade wise:

100 Nifty Buy at 8000, Sell at 8100, Profit = Rs 10,000

100 Nifty Buy at 8100, Sell at 8050, Loss = Rs 5000

Turnover of Nifty Jan futures = Rs 10,000 + Rs 5000 (absolute sum of the loss) = Rs 15000

  1. 100 Nifty Dec 8000 puts bought at 100 and sold at 50 on Dec 3rd. Another 100 Nifty Dec 8000 puts bought at 50 and sold at 30. Determine turnover

Using scrip wise:

Average of Nifty Dec 8000 puts buy: 200 puts at 75

Average of Nifty Dec 8000 puts sell: 200 puts at 40

Total profit/loss = 200 x Rs 35 = Loss of Rs 7000

Total Selling value of options = 200 x Rs 40 = Rs 8000

Total Turnover for Dec 8000 puts = Rs 7000 + Rs 8000 = Rs 15000

Using trade wise:

Trade 1

100 Nifty Dec puts bought at 100 and sold at 50, Loss = Rs 5000

Selling value of options =100 x Rs 50 = Rs 5000

Turnover = Rs 10000

Trade 2

100 Nifty Dec puts bought at 50 and sold at 30, Loss = Rs 2000

Selling value of options = 100 x Rs 30 = Rs 3000

Turnover = Rs 5000

Total turnover = turnover of (trade 1+trade2) = Rs 15000

Which of the methods scrip wise or trade wise should I follow?

Calculating turnover trade wise is the most compliant way of determining turnover. The tricky bit calculating trade wise turnover though is that no broker (other than us at Zerodha) currently offers trade wise turnover reports. All brokers provide a P&L with an average buy/sell price, which can be used to calculate scrip wise turnover. If you are not trading at Zerodha and are looking at calculating turnover trades, you will have to download all trades done during the year on an excel sheet and calculate turnover manually.

Here are the scrip wise and trade wise turnover reports on Console

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Once you determine the turnover, you will know if you need an audit or not, that is if a visit to a CA and have him verify your balance sheet and P&L statements is compulsory or not.

6.2 – Section 44AD

An audit is also required as discussed above if your profit is less than 6% of the turnover. By turnover, I am referring to all business turnover (speculative, non-speculative, and any other business you have), and by profit, I am referring to only your net business profits (not including, salary, capital gains, and others). This means that if you are trading as a business and incur a loss, you will most likely have to get the books audited.

But an important thing to remember is that if your turnover is less than Rs 5 crore (was Rs 2 crore until  FY 19/20) and if your profit is less than 6% of turnover an audit is not required if your total tax liability for the year is zero. That means if your total income (Salary + Business income + capital gain) is less than Rs 2.5lks (minimum tax slab), you have no tax liability, and hence audit not required. But it is advisable if losses are substantial to file the return with an audit.

Applying section 44AD for trading as a business income is causing a huge inconvenience for the retail trading community. Turnover in an ordinary business to turnover while trading on the markets is hugely different. Unlike an ordinary business where there is a fixed margin every time there is a transaction, in the business of trading there is no such guarantee. This section is an unnecessary burden that indirectly gets most small retail traders to have their books audited. We at Zerodha have petitioned to the government through this campaign on Change.org, make sure to support it and also get your trading friends to do the same.

When you show trading as a business income, you will have to file using ITR3, which would mean that like any other business you are required to create and maintain –

  • Balance Sheet
  • P&L statement
  • Books of Accounts

As discussed above, these will need to be audited based on your turnover (either turnover crosses the 5 Crore mark or in case the turnover is less than 5 Crore and your profits are less than 6% of the total turnover). Creating a balance sheet, P&L, and maintaining books of account is quite simple for individuals with just trading as a business income, it is explained below in brief.

6.3 – Balance sheet, P&L, Book of accounts

Balance sheet

A personal balance sheet provides an overall snapshot of your wealth at a specific period in time. It is a summary of your assets (what you own), your liabilities (what you owe), and your net worth (assets minus liabilities).

Creating a personal balance sheet is fairly simple first pull together all of this information:

  • Your latest bank statements
  • Loan statement,
  • House loan statement
  • Personal loan statements
  • Principal balance of any outstanding loans
  • Demat holding statement

Once you have all of that information available, start developing your balance sheet by listing all of your assets (financial and tangible assets) with its respective values. Typical examples of the assets could be –

  • Cash (in the bank, in hand, deposits with Bank)
  • All investments (mutual funds, Shares, Debt investment )
  • Property value ( Cost of Purchase + Duty any paid + Interiors etc)
  • Automobile value ( Motor Car + Two-wheeler )
  • Personal Property Value ( jewelry, household items, etc)
  • Other assets ( Computers, Loans to friends, a plot of land, etc)

The sum of all of those values is the total value of your assets.

Next, you can look at your liabilities, which should be everything you owe. Here are some common liability categories:

  • Remaining mortgage balance (Loan Statement)
  • Car loans
  • Student loans
  • Any other personal loans
  • Credit card balances

The sum of all of the money you owe is your liabilities.

The difference between your assets and your liabilities is your net worth.

That’s it; this is your balance sheet. Instead of creating one at the end of every financial year, it probably makes sense to update once every few months.

Profit & Loss statement

Profit and loss will summarize your revenue streams and your expenses for the financial year.

To create your P&L for the given Financial Year, you will have to list down all revenues and expenses.

Revenue –

  • Realized sale value from your stock holdings (Capital gains)
  • The Income from F&O, Intraday, or Commodity Trades. (Speculative and non-speculative business income)

Remember that you can’t add your salary income (if you are working elsewhere) into your revenue stream on the P&L.

Expenses –

  • Salaries, if you have people helping you trade.
  • Rent, if you are using an office or any space for the trading activity for which you are paying a rental income
  • Brokerage charges, taxes, and all other trade-related expenses.
  • Advisory fees, consultancy, depreciation of computer, and etc (read the expenses section in the chapter on taxation-traders)

Revenue minus the Expense equals profit.

A Balance sheet helps you understand your networth between two dates and the P&L will give you the reasons why your networth went up or down in that period. Maintaining financial discipline is the key to long term personal wealth creation. A personal balance sheet and P&L will ensure that you are constantly in touch with reality – your assets and liabilities.

Book of accounts/Book-keeping

Maintaining a book of accounts and Book-keeping seem like very complex tasks, and typical reactions I have seen from traders is to get scared of the word and try postponing the decision to learn more on the topic. Again for an individual with only trading as a business income and/or salary, it is super simple- you just need to maintain two books.

Bank book: Take an excel download of all your bank statements, and make a note next to every entry to identify the nature of the transaction. It is also best to keep a copy of all the bills in case of expenses.

Trading book: This should be automatically getting maintained for you by the broker where you trade. The broker should be able to give you a P&L statement including all expenses for the year, ledger statement, and an online repository of contract notes if required. Unlike what many people think, contract notes aren’t really required unless scrutiny by the IT department, and even then if only asked for the same.

As a person who has traded with over 10 online brokers in India, the ledger and P&L statements with all expenses on it will show up any hidden charges by the broker.

At Zerodha, we take great pride in the transparency we bring in as a business. Every charge other than brokerage is captured on the other credits/debits section on the tax P&L on Console. We also give you a summary with value of all your open option positions starting April 1st and closing March 31st. This is extremely useful when you are trying to tally your ledger with your P&L statement.

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We are almost done with the taxation module. The last chapter will have an explanation of what kind of ITR forms to use, and also an excel download of a sample ITR 4 form with all details as an easy reference.


Key takeaways from this chapter –

  1. Audit of the books is required if turnover is more than Rs 5 Crore mark
  2. Audit of the books is required if turnover is less than Rs 5 Crore but if the profits are less than 6% and total income more than the basic exemption limit (was 2 cr until FY 2019/20)
  3. Audit of the books is NOT required if turnover is less than INR 5 Crore and profits higher than 6% of the turnover (was 2 cr until FY 2019/20)
  4. Turnover does not take into consideration the regular contract turnover
  5. Turnover refers to the business turnover
  6. Business turnover (for trading as a business) can be calculated scrip wise or trade wise
  7. Trade wise turnover is the most compliant way of declaring turnover.
  8. If you are declaring trading as a business then one needs to use the ITR3 (ITR 4 until 2016) form to file tax returns
  9. ITR3 requires you to have Balance Sheet and Profit and Loss statement along with books of account
  10. Balance sheet equation states that Net worth = Assets – Liabilities
  11. P&L statement details the revenues and expenses
  12. If trading as a business maintaining 2 books of accounts becomes mandatory – Bank Book and Trade book
  13. It is advisable to maintain and update the Balance Sheet, P&L, and books of accounts once in every quarter.

 

Disclaimer – Do consult a chartered accountant (CA) before filing your returns. The content above is in the context of taxation for retail individual investors/traders only.

1,503 comments

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  1. Harshendra Singh says:

    After reading these chapters I as a CA student, feeling more fascinated and excited by the complex world of Taxation and related matters.

    • Harishankar says:

      I am a bit baffled by the concept of adding in the selling value – especially when you have bought a options contract. Taxation philosophy is based on making sure that any income earned must be offered for taxation.

      When dealing in options, the trade may end up in one of the 3 states:-
      1. Trader squares off the options contract prior to expiry.
      2. If the option is in money, the exchange squares off the options contract and issues a credit to buyer or debit to seller.
      3. The option expires out-of-money – in which case, there is no square off of the contract done by the exchange.

      Only in case 3), the seller of the option has earned the premium (as there is no squaring off of the out-of-money contract) – in cases, 1) and 2).

      • Nithin Kamath says:

        Hari, turnover requirement is only to determine if audit is needed or not. It doesn’t affect taxation in any way. Also like I have mentioned earlier, the way I have explained, is probably the most conservative way. You can adopt for any method that you think is right.

        • SURESH says:

          Hi,
          Please advise how I can check p&l for a specific period like last year or a month?

          Where I can check same in kite?

          If their any link for easy access, please send me ASAP.

          • Nithin Kamath says:

            When you login to Kite, click on your client ID on top right of the page, you will link to Q backoffice. You can see the P&L there. Q.zerodha.com is the direct link.

        • SAI KUMAR says:

          NIthin Sir,

          my intraday turn over is 1,56,412 and short term turn over is 46959 and and my profit on intraday is -27754 and my profit on short term is -2681 showing on Q-office.plz confirm wether audit is required or not is any tax will be applicable for me.

          • Nithin Kamath says:

            can you read the chapter on audit. Since your profit is less than 8% of turnover you will need audit. But I guess since your turnover is so little, you can show profit as 8% and you can avoid audit.

        • Sai Lakshmi says:

          Hey! The turnover calculation is very clear (which is to be credited to profit and loss account) however how to calculate the purchase value that is to be debited to profit and loss account?

        • RAMSWAMY says:

          Dear Nithin wonderful explanation and response .we deeply appreciate your effort and help in educating small investors especially employees.I have some queries and hope your help in this regard.

          1. if you have profits from longterm capital gains i.e selling equities around 12000 rs and loss of 2 lakhs in speculative and non speculative and as per your chapters taking all positives and negatives in F&O plus selling price of options plus positve and negatives in equity intraday our turn over is around 30 lakhs .so you said as turn over is less than 2 crore and loss (profit less than 6%) ) i need to submit itr3 and get my books audited or declare 6% profit and avoid audit so my query is

          where i need to declare this profit and can i carry forward my losses can declare 6% profit in itr3 in speculative and carryforward non speculative losses or do i need to declare overall loss 6% and use only itr4 without caryyforwarding losses

          suppose next year if i got profits then do i need to use same itr4 and declare presumtive profit of 6% or do i need to pay tax for full profit as per slab rate

          if i get audited this year and carryforward my losses and i got my profit morethan the 6% of turnover and less than 2 crores then do i need to get audited again as i got audited this year and every year do i need to get audited irrespective of turnover and profit

          if i stop trading next year like to do trading after 2 years and my income is only salary then can i submit itr1 because i can carryforward theselosses to next 8years nonspeculative or do i need to submit itr3 and carryforward the same losses every year

          finally its really confusing what to keep in the sales of good column in itr3 and what to keep in purchases column of itr3 and other expenses column because one of my collegue get it done from a CA and he put contract value of buy price of shares in purchases and contract value of selling in sales column then turn over would be contract turnover but not business turnover.based on your informatio i presume all positives of futures and option s (intraday) in sales of goods and negatives in purchases and where do sales of options premium price to be included and which column speculative positive and negatives to be included
          which column longterm capitalgain included (realized this year before April so i guess no tax ) it would be helpful if you can give a sample with these examples and salary an example of latest itr3 including hra and chapter via because my employee does not included hra and my house owner didnt give his PAN card,

          thanks alot for your help

          • Nithin Kamath says:

            If you have losses of 2lks, I think it is best to get a CA to audit your ITR3 and you carry forward. IF next year you stop trading, you can still use ITR3, but without need of an audit.

        • Rajeev Kumar Arora says:

          I have an acc with you but not traded here as am doing the same at Kodak and fear that audit will be difficult clubbing two.
          Could you help with kotak acc too?
          For FY 2018_19 return filed and the turnover was less than the limit and in fact the total income was less than 2lakh with no capital gains!
          I want to file revised return showing trades as business mainly for experience as this year o wards I want to do f&o trades which would call for audit

          • Nithin Kamath says:

            hmmm.. I don’t know if it is smart to now revise and show it as business. When you start trading F&O etc from this year, you can start showing it as business. It is anyways not smart to show it as business income, if you don’t have too many equity delivery trades in the year.
            Btw, audit won’t be difficult clubbing two accounts. 🙂

          • Aditya Ghuwalewala says:

            Hello NItin Sir,

            I have a gross intraday net profit of Rs 26000 for the year. Now is this amount the same as intraday turnover. As far as I understand from this chapter, intraday turnover should be the same as intraday net profit/loss. Am I correct in my understanding? If not how do I calculate the intraday turnover.

            Thanks
            Aditya

          • Nithin Kamath says:

            Intraday turnover is gross sum of all P&L by individual scrips. So if you made 10k profit in one stock and 10k loss in another, net P&L is 0, but turnover is 20k.

  2. Harshendra Singh says:

    Illustration given here are more practical and illustrative than those given on our ICAI books. Keep up the good work.

  3. sp gupta says:

    Good that you have deciphered the ambiguous content of Taxation. What about over 95% of traders associated with other Brokerage Houses? I am sure they will have their own interpretation of Taxation and would proceed accordingly. Why can’t CBDT come up with simple and clear sections which would be helpful to layman as well….

    • Nithin Kamath says:

      I don’t think any brokerage out there has taken the effort till now to decipher taxation for their clients. So what 95% of traders need to know are general guidelines around taxation, which is covered in this module. This is meant for everyone trading and investing and not just for Zerodha clients. For people investing/trading with us we give a bunch of reports that is very helpful to be compliant while filing income tax returns.

  4. Nilesh says:

    Hi, Thanks for all the information.
    You have shown with example how turnover is calculated both for trade wise and scrip wise. Can you please explain similarly how the Gain / Loss would be computed ? I am planning to show STCG and F&O has business income. So I understand that I should be able to reduce my profits scrip wise by the deducting the cost of transactions i.e Brokerage, STT incurred on those transactions. Is that assumption correct ?

  5. Prabhu says:

    Nithin Hi,

    Thanks for the wonderful initiative.

    While trading Options –
    For all non-speculative transactions, the article says that “Premium received on sale of options is also to be included in turnover…”

    However, when I Square off a Long position, I need to Sell the existing Long Position. I am not Writing an Option. Since in this case I am not really taking in the Premium but just Squaring off the trade, is the Sell value also considered as Premium received, to be added to the Turnover as shown in your example ? Or is Premium received, only when I Short Sell / Write an Option ?

    Is the no difference between Writing an Option and Selling to Square Off as far as Turnover is concerned ?

    I am a bit confused.
    Thanks in advance for your reply.

    Prabhu

    • Nithin Kamath says:

      Prabhu, it is upto you on what inference you make out of it. But I think the most compliant way to decipher would be to look at both the points:
      Premium received on sale of options is also to be included in turnover
      In respect of any reverse trades entered, the difference thereon should also form part of the turnover.

      So yes, consider sell value of all options (either long exit of fresh short) for calculating turnover. If you are trading at Zerodha, your turnover statement will have this calculation.
      But like I have said, turnover is to only determine if you need an audit or not. It is best to have books audited in any case.

      • Prabhu says:

        Nithin,
        Thanks for your clarification..

        Yes, I do trade with Zerodha and its been a good experience..
        Rgds

        • Akash says:

          Hi Nithin,

          Appreciate the work you are doing and how patiently you have answered all questions.

          My issue is that in the zerodha tax p&l statement total charges (which include Brokerage, Turnover etc) are not given separately for Equity Intraday and Equity Short Term Transactions. For last FY I have traded for like 85% in equity intraday and remaining equity short term delivery based.

          As zerodha doesn’t give total charges separately for equity intraday and equity delivery based hence my CA is considering turnover ratio to split the total charges between equity intraday and equity delivery based. However as the turnover calculation logic is different for equity intraday and equity delivery based its not giving correct picture of the total charges incurred for the two. For example though I have traded 85% in equity intraday, intraday turnover is 120660 and short term turnover is 109716.

          So my question is whats the best way to identify the actual total charges incurred for equity intraday and equity short term delivery based with out going through each contract note as that would be cumbersome.

          Many Thanks

          Lucky

      • Vishal says:

        Hi Nithin, I also have same problem in understanding how the squaring off an option is considered as premium. Two questions:
        1- I believe squaring off of options is considered premium in Zerodha and is taken into turnover calculation, pls confirm?
        2- If I trade futures, Square off of future position will not be taken as premium in Zerodha calculation? In case of futures, sum of profits and losses will define the turnover, pls confirm.

        Bye
        Vishal

        • Nithin Kamath says:

          Vishal,

          1. Yes the turnover reports (tradewise or scripwise) both consider squared off premium value as part of turnover. This is the most conservative approach. It is upto you though on how you want to declare the turnover.
          2. Yes, in case of futures only sum of profits and losses is considered as turnover the reason being in futures the margin gets blocked and not debited.

          • Sumit says:

            Hi Nitin, Thx for the detailed explanation. However, I don’t think you should encourage the most conservative approach to calculating turnover by adding option sales premium even in case of squared off option trades. Revenue + Profit can not be turnover.

          • Nithin Kamath says:

            Sumit, like I have mentioned earlier, when advising I have to be as conservative as possible. Don’t want people to come back if tomorrow a notice comes up.

          • Sumit says:

            Nitin, I’d advise people to file appeal if they get any notice. But it’ll be very wrong to propagate a practice which is conceptually wrong, especially by prominent industry representatives like you. Many tax laws in india are ambiguous or conceptual fallacies. We need to oppose those.

      • ASHISH says:

        Hi Nithin

        My querry is if i add the difference of option buy & sell & after this i add the sell value of he option wont it be double calculation of turnover

        since the value of diff is already incorporated in sale value of option if its a profit trade

        thx in advance

        • Nithin Kamath says:

          Ashish, the way I have explained is the most conservative way. It is upto you on how you want to declare turnover. This is quite a grey area.

          • madhusudhana reddy K.S says:

            Hi Nithin,

            Regading options we have to take positive and negitive values( profit/loss) to calculate Turnover.

            Premium received on sale of options is to be included in turnover. i.e. writing (selling of put and call options for premium)
            In my opinion Premium received on writing put and call options is included in TO, not for buying and sqareoff of options.

          • Nithin Kamath says:

            Like I said in the post, this is all up for debate. You can take the definition whatever suits you.

      • Ankit says:

        Hi nitin
        I also trading in future and option , and turnover of these exceed by one core which is calculated as per icai guidelines , but in this trading I got loss , but while making of profit and loss , how can I claim my loss because indirect expenses regarding this is so less, can u please explain or send any p& l format future and option related as soon as possible.

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