Recognition of Stock Exchange for Derivative Transaction

Introduction

The derivative transaction in shares and commodities are not considered speculative only if these transactions are carried on a recognised stock exchange. A stock exchange is recognized for such purpose if it fulfils certain conditions as prescribed in this behalf and it files an application for such recognition.

1. About

As per Section 66(31) ‘speculative transaction’ is a transaction in which a contract for the purchase or sale of any commodity including stock and shares is periodically or ultimately settled otherwise than through actual delivery or transfer of the commodity or scrips. It further provides the following list of hedging transactions which are not considered as speculative:

(a) Hedging against price fluctuation of inventory;

(b) Hedging against price fluctuation of securities;

(c) Transaction in Share Derivatives; and

(d) Transaction in Commodity Derivatives.

As per Section 66(33), the specified derivative transaction in shares and commodities are not considered speculative only if these transactions are carried in a recognised stock exchange.

Rule 5 prescribes the process for recognition of a stock exchange, and Rule 4 prescribes the conditions a stock exchange is required to fulfil in respect of trading in share derivatives.

2. Trading in Share Derivatives

2.1. Conditions for recognition [Rule 4]

Section 66(33) of the Income-tax Act, provides that a “specified derivative transaction” in shares carried out on a recognised stock exchange shall not be treated as a speculative transaction. For this purpose, a stock exchange shall be notified as recognised stock exchange if it fulfils the following conditions:

(a) In respect of trading in derivative, the stock exchange shall have approval of the SEBI. It shall function in accordance with the guidelines and conditions laid down by the SEBI;

(b) The database of such stock exchange shall maintain and store the particulars of the client including unique client identity number and PAN;

(c) The Stock exchange shall maintain a complete audit trail of all the transactions in respect of the cash and derivative market for a period of 7 tax years on its system;

(d) The stock exchange shall ensure that once a transaction in respect of cash and derivative market is registered in the system, it shall not be erased; and

(e) The stock exchange shall ensure that the registered transactions are modified only in case of genuine error. It shall also maintain a data regarding the registered transactions which are modified. In respect of such modified transactions, it shall also submit a monthly statement in Form 1 electronically to the Director General of Income-tax (Systems), New Delhi within 15 days from the last day of each month to which such statement relates.

2.2. Application for recognition [Rule 5]

2.2-1. To whom application is to be made

Application for notification as a recognised stock exchange in respect of trading in derivatives may be made to the Member (Income Tax), Central Board of Direct Taxes,  New Delhi.

2.2-2. Documents to be furnished

Application for notification shall be accompanied with the following documents:

(a) Approval granted by SEBI for trading in derivatives;

(b) Up-to-date rules, bye-laws and trading regulations of the stock exchange;

(c) Confirmation regarding fulfilling the conditions prescribed for notification as a recognised stock exchange;

(d) Any other information which the stock exchange may like to place before the Central Government.

Any information, which the central government deems necessary for taking decision on application, may be called from the applicant stock exchange.

2.2-3. Notification and rejection

After examination of the information furnished by the stock exchange, Central Government is required to issue notification for recognition or to issue order for rejecting the application. Such notification or order is required to be issued before the expiry of the 6 months before the end of the month in which application is received.

2.2-4. Validity of recognition

Recognition granted to the stock exchange shall remain valid until the approval granted by the SEBI is withdrawn, expires, or the notification is rescinded by the Central Government.

This article is general information and not tax advice. Provisions change. Confirm your position with a qualified professional before acting.