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May 12, 2021

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Can you Incorporate a Company for Trading in Capital Market?

Overview – A Company for Trading

Capital market participation in India rose by a record high of 10.4 million in 2020. As trading and investing become more accessible, more and more people are participating in the stock market. With growing participation in Capital Markets, we have been getting this question lately, is it possible to incorporate a company for trading? And if yes, how so?…

Let’s weigh our options.

One might think that incorporating a company is beneficial as it allows you to claim expenses, but that could also be done if you are trading in your individual name using ITR-3. So, why are traders keen on incorporating a company for trading in capital markets?

Tax Rates

Condition Income Tax Rate (Excluding surcharge and cess)
Turnover or gross receipt in previous year 2018-19 not exceed INR 400 Cr 25%
If opted for Section 115BA 25%
If opted for Section 115BAA 22%
If opted for Section 115BAB 15%
Any other Domestic Company 30%

Pros and Cons of Incorporating a Company for the purpose of Trading

 

Pros Cons

  Possible Tax Benefits:

  • One of the main reasons why traders consider this is because – the companies need to pay tax at a flat rate of 25% (if annual turnover is up to INR. 400 crore in FY 2017-18) instead of the income tax slab rate applicable to individuals. (which can go as high as 42.8% including surcharge)

  Cumbersome process for NBFC licensing:

  • As discussed earlier, if the company falls into the criteria of NBFC, then obtaining RBI approval & fulfilling the conditions can be a tedious job, as without the licensing one cannot start the trading as a Company.

  Limited Liability:

  • In a company, the liability of members is limited to the number of shares they have subscribed to as against the unlimited liability of an individual or a sole proprietorship/partnership firm.

  Stringent regulatory process:

  • Once the NBFC is incorporated it is mandatory to comply with RBI rules, directions, circulars etc. For a normal trader, it can be very ardent to comply with all the regulations.

  Perpetual Succession:

  • A company has perpetual succession, i.e. it is unaffected by changes or even death of any member.

  Capital requirement too high:

  • Initial capital requirement can be too high for mid size traders.

Although trading income is treated as business income for income tax purposes, they are not required to have the same compliances as businesses from MCA or GST perspective. Here, MCA does not require traders to incorporate a company for trading. Similarly, traders are not required to have GSTIN.

Prerequisites for Incorporating a Firm for the Purpose of Trading

NBFC Criteria

When a company files for incorporation with the ROC for a Pvt Ltd company with the purpose of business as ‘Derivative  trading’ anywhere in the AOA, ROC will ask for the Reserve Bank’s NOC for NBFC. At the same time if you need an NBFC license from RBI, you need to submit your CIBIL credit report. In order to procure this report you need to be in operation and your books need to be older than 1 year.

If you are considering NBFC to dodge taxes, you will face many unsavoury regulations along the way. The tax benefit is definitively attractive, but these are provisioned for genuine NBFCs that are running an NBFC business. That is the nature of regulations in the first place to discourage operators with ulterior motives. More so when RBI gets involved.

  • At least one of your MDs needs to have an NBFC background.
  • You need to maintain a net liquidity of INR 2 Cr.
  • Your company will need a CIBIL rating as mentioned above. Which will warrant normal NBFC like and highly credible operations and has got a set of its own requirements.
  • To Keep up with the regulations and compliance requirements, you might end up incurring the cost of having an office, some staff, CAs & CS etc and a reduced liquidity, that might as well negate the whole purpose of tax benefit in the first place.
  • You could consider combining F&O trading with your other businesses (if you have) and if your other business is worth more than 50% of the company’s total assets and income, you don’t even need an NBFC license since you don’t fall in the 50-50 test.
  • You also could consider registering a company for some other purpose, operate it for some time and later convert it into an NBFC

But, does it make sense to have a company for trading in capital markets?

When a  company is incorporated with the main objective of trading, it comes under the purview of RBI since the  company would be deriving more than 50% revenue from its financial assets, hence such company would have to take an NBFC license.

There are some other points too that come in the picture while going for incorporation of a company.

Other Notable Points to keep in mind

  • Tax on Dividend income:
    • In order to withdraw the profits made by the company, it shall be paid as a dividend to the members which is taxable at slab rates.
  • Cost of incorporation:
    • The cost of setting up, maintaining, and winding up upon dissolution of a company is considerable. A company is also required to abide by other general laws and compliances such as GSTIN, PF, etc, and also specific laws applicable to as per the nature of the company.
  • Compliances:
    • A registered company has to bear the cost of certain mandatory annual compliances such as, filing of financial statements, filing forms for making changes in the Board, holding board meetings, etc. & a miss in any of these failing which would lead to incurring huge penalties.

Impact of MOA & AOA in the Trading Context

While incorporating the company, the purpose of incorporation i.e. trading in derivatives needs to be clearly mentioned in the MOA & AOA otherwise MCA may reject the application for incorporation.

Also, after incorporation at the time of approval from RBI, it shall too scrutinize the MOA & AOA of the company incorporated.

How to Disclose such Income?

The income arising from Derivatives trading in relation to a company shall be taxable under the head “Profit & Gains from Business or Profession” and it shall be taxed at the respective rates discussed earlier. Lastly, the company would have to file ITR 6 needs to disclose such income.

Conclusion

In a nutshell, trading in derivatives as a company may prove to be fruitful for traders as it can save taxes but at the same time the regulations, compliance etc needs to be considered very carefully. 

Private Limited Company (PLC) Registration
CS Assisted incorporation of Private Limited Company (PLC) in India.
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Private Limited Company (PLC) Registration
CS Assisted incorporation of Private Limited Company (PLC) in India.
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Got Questions? Ask Away!

  1. Avatar for Nireka Nireka says:

    Hi @Saurabh_Ghosh

    1. The treatment of income from the trading activity will remain the same irrespective of company account or individual account. They are classified under the same income heads such as capital gains or business/profession and taxes are calculated accordingly.
      If your turnover is less INR 400 cr then the Income Tax slab rate is 25% for companies. For Individuals, the income tax liability is taxed at the applicable slab rates.
    1. To claim GST ITC, you need to have a GST registration and need to file a GST return. However, when filing your Income Tax Return, you can claim expenses directly related to your trading activity like electricity bills, internet expenses, etc.
      Keep in mind, if you are claiming GST ITC you cannot claim the GST amount in your expense.
      For eg: if the electricity bill is INR 1180 (180 being GST), and you are claiming the ITC on INR 180, you claim only INR 1000 as an expense when filing your ITR. In case you do not have GST registration, you can claim the total of INR 1180 when filing the ITR.

  2. Thanks for the reply!
    So what i understood file gst for gst itc and remaining file itr for 100% benefit of expenses.

    So which is better practice to do,

    Have gst and file both gst and itr or just simply file itr no need of gst.

    I mean which gives complete benefit for expenses.

  3. Avatar for Nireka Nireka says:

    @Saurabh_Ghosh,

    The GST Act specifically excludes Securities from the definition of Goods. So there is no requirement for traders to have GST registration.
    The GST paid on trading expenses such as brokerage, transaction costs, turnover fees, etc can still be claimed as an expense when filing the ITR.

  4. Avatar for Nireka Nireka says:

    @Saurabh_Ghosh

    Since GST ITC claimed can only be used when you have GST liability. So it might make sense for a trader to claim ITC along with other expenses when filing the ITR.

    However, if you have GST payable then you can claim the ITC credit against that liability.

  5. @Saurabh_Ghosh,

    Right.
    Also, since Capital Market traders are not required to have GST registration.

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