How to detect fraud during the Audit - A tool for auditors

By Rashid Mehmood

I felt a need to write about this important topic after experiencing that often times a fraud is detected by chance during the audit either by external or the internal auditors. The new auditors in profession and the auditors under training may skip the fraudulent transactions due to less experience and sometimes lack of analytical audit procedures. This article has been focused on two points i.e. fraud itself and its detection techniques. I believe once these techniques are properly understood by the auditors they will be mastering in identifying the risky areas and to implement the fraud detection plan during the audit of a financial statement as a whole or the group of transaction thereon.

Tax on Derivatives

In Future Contracts (Cash-Settled) there is no transfer or delivery of the underlying asset in case of futures. Hence the income or loss from it cannot be taxed under the head capital gains. If the assessee is a Trader the head of income will be income from business and profession. In case of Investor it will be income from other sources. In either case, the income will be taxed on net basis at the rates applicable to the assessee.

The option premium is an income for the writer of the option and a tax-deductible expense in the hands of the buyer of the option. In case of a Trader, the taxability of the gains/loss on exercise of the option is akin to Future Contracts. However, in case of an Investor, since there is an extinguishment of a right the gain therefrom will be treated as a capital gain, and not an income from other sources, and the premium will be allowed as the cost of acquisition.

Open interest refers to a situation, wherein on the date of the financial year end, there are outstanding derivatives contracts in the hands of the market participants. Since, under the prudent accounting principles, derivatives contracts are marked-to-market (MTM), there can be unrealised MTM gains or losses prevailing as on March 31. Whether the assessee will be liable to tax on the gains or take the benefit of the losses in such a case.

As per my understanding only real income/loss attracts tax provisions and not the notional gains/losses.

With the insertion of Section 43(5)(d), eligible transactions on notified stock exchanges have been rendered non-speculative in nature. Therefore, trading in commodity and equity derivatives traded on stock exchanges other than those notified, is still treated as speculative, the loss wherefrom cannot be adjusted against any other sources of income. Losses from such derivatives are eligible to be carried forward for a period of four years.