Think of Section 71 as a loss-adjustment rule between different income buckets. You earn salary from one source, run a side business, have rental income — all of these are separate "heads" of income. Sometimes one bucket is in loss. Section 71 decides: can you use that loss to reduce income in a different bucket? The answer is: mostly yes, with three big exceptions.
The general rule is simple — if you have a loss under any head (other than Capital Gains), you can set it off against income under any other head in the same assessment year. So if Ms. Iyer has a loss of ₹3 lakhs from her freelance consultancy (Profits & Gains of Business or Profession) and ₹8 lakhs of FD interest (Income from Other Sources), she can adjust the ₹3L loss and pay tax only on ₹5L. Clean and logical.
Now the three exceptions you must memorise for the exam:
Exception 1 — Capital Gains loss is ring-fenced (S.71(3)): A loss under the head Capital Gains can NEVER be set off against income under any other head. It stays trapped inside the Capital Gains head (and carries forward within that head under Section 74).
Exception 2 — Business loss cannot eat into Salary (S.71(2A)): Even though the general rule allows business losses to be set off against other heads, there's a specific carve-out — a business/profession loss cannot be set off against Salary income. Mr. Sharma's startup may be bleeding ₹5 lakhs, but his ₹12L salary is fully taxable. He cannot reduce his salary using the business loss.
Exception 3 — House Property loss capped at ₹2 lakhs (S.71(3A)): If your rental property is in loss (interest on home loan > rental income), you can set off that loss against other heads — but only up to ₹2,00,000 per year. The excess loss is carried forward up to 8 years and set off against future house property income only. This cap was introduced from AY 2018-19 to prevent high-value home loan interest from wiping out salary income.
This section is asked frequently as a 4-6 mark question, often combined with Section 70 (intra-head set-off) and carry-forward rules under Sections 72-74. Master the three exceptions cold.
Example 1 — Business Loss vs. Salary (Exception 2A in action)
Rajesh has the following income/loss for AY 2026-27:
- Salary: ₹14,00,000
- Loss from proprietary business: ₹4,00,000
- Income from Other Sources (FD interest): ₹1,50,000
Working:
| Head | Amount |
|---|---|
| Salary | ₹14,00,000 |
| Business Loss | (₹4,00,000) |
| Income from Other Sources | ₹1,50,000 |
Step 1 — Can business loss set off against salary? No (Section 71(2A) prohibits this).
Step 2 — Can business loss set off against Other Sources? Yes (general rule applies).
Business loss set off against Other Sources: ₹1,50,000
Remaining business loss unabsorbed: ₹4,00,000 − ₹1,50,000 = ₹2,50,000 (carries forward u/s 72)
Gross Total Income = ₹14,00,000 + ₹0 = ₹14,00,000
---
Example 2 — House Property Loss Cap (Exception 3A)
Ms. Priya has for AY 2026-27:
- Salary: ₹20,00,000
- Loss from House Property: ₹3,80,000 (home loan interest ₹4L − rent ₹20,000)
- Short-Term Capital Gains: ₹1,00,000
Working:
Step 1 — HP loss set off against other heads? Yes, but capped at ₹2,00,000 (Section 71(3A)).
Step 2 — Can HP loss set off against Capital Gains? Yes (it is "any other head"), subject to the ₹2L cap overall.
HP loss allowed as set-off: ₹2,00,000
HP loss carried forward: ₹3,80,000 − ₹2,00,000 = ₹1,80,000
Adjusted income:
- Salary: ₹20,00,000
- HP loss adjusted: (₹2,00,000) — set off against salary
- STCG: ₹1,00,000
Gross Total Income = ₹20,00,000 − ₹2,00,000 + ₹1,00,000 = ₹19,00,000
(Note: The ₹1,80,000 carried forward can only be set off against future House Property income — not salary, not capital gains.)
📖 Bare Act text — Section 71, Income Tax Act 1961
(click to expand)
(1) Where in respect of any assessment year the net result of the computation under any head of income, other than "Capital gains", is a loss and the assessee has no income under the head "Capital gains", he shall, subject to the provisions of this Chapter, be entitled to have the amount of such loss set off against his income, if any, assessable for that assessment year under any other head. (2) Where in respect of any assessment year, the net result of the computation under any head of income, other than "Capital gains", is a loss and the assessee has income assessable under the head "Capital gains", such loss may, subject to the provisions of this Chapter, be set off against his income, if any, assessable for that assessment year under any head of income including the head "Capital gains" (whether relating to short-term capital assets or any other capital assets). (2A) Notwithstanding anything contained in sub-section (1) or sub-section (2), where in respect of any assessment year, the net result of the computation under the head "Profits and gains of business or profession" is a loss and the assessee has income assessable under the head "Salaries", the assessee shall not be entitled to have such loss set off against such income. (3) Where in respect of any assessment year, the net result of the computation under the head "Capital gains" is a loss and the assessee has income assessable under any other head of income, the assessee shall not be entitled to have such loss set off against income under the other head. (3A) Notwithstanding anything contained in sub-section (1) or sub-section (2), where in respect of any assessment year, the net result of the computation under the head "Income from house property" is a loss and the assessee has income assessable under any other head of income, the assessee shall not be entitled to set off such loss, to the extent the amount of the loss exceeds two lakh rupees, against income under the other head. (4) Where the net result of the computation under the head "Income from house property" is a loss, in respect of the assessment years commencing on the 1st day of April, 1995 and the 1st day of April, 1996, such loss shall be first set off under sub-sections (1) and (2) and thereafter the loss referred to in section 71A shall be set off in the relevant assessment year in accordance with the provisions of that section.