Business Standard

All you need to know about life insurance and its tax implications

Most people don't buy right insurance products; they just given in to best sales presentation

Deepesh Raghaw  |  Mumbai 

Image via Shutterstock

Most retail investors use products as tax saving instruments. Under Section of the Act, premium up to a maximum of Rs 1.5 lakh per financial year qualifies for tax deduction. Most of us leave tax planning till the very end of financial year. When the financial year end approaches, most of us give in to the best sales presentation from a financial intermediary without understanding the product features completely.

Financial planners often advocate that retail customers shall not mix their and investment needs. Even then, in the rush to meet tax deduction limit targets, most of us end up buying products such as unit-linked plans (ULIP) and endowment plans that offer the dual benefit of and investment. 

Whether products make for good investment products is a different question altogether. In our opinion, you must keep your and investment needs separate. However, this is not what we intend to discuss in this article. A lot of people buy such products just to save taxes. We want to highlight that many such products may not even provide you the expected tax benefits.

Which premium is tax deductible?

Any amount paid towards premium for yourself, your spouse and children qualify for deduction under Section However, premium paid by you for parents/siblings/in-laws is not eligible. Please note tax deduction is subject to an overall ceiling of Rs 1.5 lacs under Section

How much premium is tax deductible?

A common perception is that the entire premium qualifies for tax deduction. However, that is not the case. Not all premium paid is tax deductible. If the policy is issued on or before March 31, 2012, annual premium up to a maximum of 20% of the Sum Assured is tax deductible. In case the policy is issued on or after April 1, 2012, annual premium up to a maximum of 10% of Sum Assured is tax deductible. An additional relaxation of 5% (i.e. up to 15% of Sum Assured) is available to person suffering from disability or sever disability (as specified under Section 80 U) or to those suffering from a disease or ailment as specified under Section 80DDB.  For a policy, Sum Assured is the minimum amount assured to the nominee (of the policyholder) in the event of death of the policy holder. 

Let’s consider an example. If you purchase an policy with a sum assured of Rs 8 lacs and an annual premium of Rs 1 lacs, only Rs 80,000 (10% of Sum Assured) is tax deductible. You won’t get any tax benefits for the balance premium. Any premium in excess of the aforesaid limit (10% of Sum Assured for the new policies) shall not qualify for tax deduction under section of the Act. 

Image via Shutterstock

Taxation of proceeds

Getting tax deductions on premium payments is one part. Other common perception is that the maturity proceeds from products are exempt from tax too. This is also not true.

Any proceeds from the policy resulting from the death of the policyholder are tax free. Please note that the proceeds from the policies (other than in case of death) that do not meet the aforementioned criteria (percentage of sum assured) are taxable at the time of maturity. Hence, for any new policy purchase, where annual premium for any year during term of the policy exceeds 10% of the sum assured, the proceeds (other than in case of death) will be taxable. The proceeds shall be taxed at policy holder’s marginal rate (as per slab).

Which products are the worst hit?

Pure plans (term plans) are unlikely to be hit by these conditions. Typically, the sum assured in term plans is a very high multiple of annual premium. For instance, For a 30 year old non-smoker male, sum assured of Rs 1 crore will cost an annual premium of Rs 6,000-12,000. There are no maturity proceeds in a term plan. Death benefits are, in any case, exempt from tax.

The problem is there for plans which provide investment benefits too i.e. products such as endowment plans and ULIPs where sum assured is a much lower multiple of annual premium.

Under IRDA guidelines, for a product (for a person aged less than 45 years) with a policy term of 10 years or more, sum assured shall be at least 10 times annual premium. So, in such cases, you will receive tax benefits for sure. However, if the applicant’s age is 45 years or more or if the policy term is less than 10 years, IRDA has relaxed this minimum sum assured limitation. It is in these cases that you might lose out on tax benefits. Some plans give you the option of choosing your sum assured. If you are looking for tax benefits, choose the sum assured accordingly.

Single premium policies are the worst hit. These are marketed as investment products and thus sum assured is kept low to enhance returns (lower sum assured means lower mortality charges and thus greater part of the premium gets invested). For single premium plans, sum assured is typically 1.25-1.5 times the premium. Hence, investment in such plans will not qualify for tax deduction.

Early surrender/termination of products

As per Section of the Act, if you terminate your participation in a ULIP (by not paying premium or giving notice to the company) before paying premium for five years, the aggregate amount of tax deductions allowed in the previous years for payment of premium shall be disallowed. The income for such previous years shall be adjusted accordingly and the policy holder will have to pay tax accordingly. For products other than ULIPs, the premium has to be paid for atleast 2 years to avoid reversal of tax benefits taken in the previous years. For single premium policies, the contract should not be cancelled within two years of commencement of to avoid reversal of tax benefits.

Hence, you must exercise extra caution. If you purchase a wrong product, you can either terminate the policy and forgo the tax benefits claimed in the previous years or continue with the wrong product for the minimum number of years. The products are typically front loaded i.e. charges are higher in the earlier years. Therefore, if you surrender before the minimum prescribed period, not only do you forgo the tax benefits but also take a hit on your returns due to higher charges in the initial years.

TDS on proceeds

Most retail customers are not aware of these conditions. Thus, they are likely to fall short of tax compliance.  Till now, there was no easy way for even the taxman to find out about your non-compliance. However, in the budget 2014-2015, the government moved to plug in this gap by introducing a provision for tax deduction at source (TDS) of 2% if the proceeds are not tax-exempt. Now, the onus is on the company to deduct TDS of 2% if the proceeds are not tax exempt. This will leave a trail for the department to follow to your door steps and send a tax demand. No TDS shall be deducted if the maturity proceeds are less than Rs 1 lac.

Image via Shutterstock

Things to remember

A financial product’s tax structure is one of the critical elements that are considered before purchase of a financial product. However, you must never purchase a financial product just to save taxes.  

We advise to keep your and investment needs separate. As discussed above, if you buy a pure term plan, the aforementioned tax restrictions will never be a problem as the sum assured is a very high multiple of premium paid. It is when you mix your investment and needs that these restrictions can come into play. 

You need to understand that purchase of a product involves a long term commitment to pay annual premium. If you realize that you have purchased a wrong product, even termination of such plans shall have unintended tax consequences as discussed above. 

 

The author is a Sebi-registered Investment adviser and founder of PersonalFinancePlan.in

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All you need to know about life insurance and its tax implications

Most people don't buy right insurance products; they just given in to best sales presentation

Most people don't buy right insurance products; they just given in to best sales presentation
Most retail investors use products as tax saving instruments. Under Section of the Act, premium up to a maximum of Rs 1.5 lakh per financial year qualifies for tax deduction. Most of us leave tax planning till the very end of financial year. When the financial year end approaches, most of us give in to the best sales presentation from a financial intermediary without understanding the product features completely.

Financial planners often advocate that retail customers shall not mix their and investment needs. Even then, in the rush to meet tax deduction limit targets, most of us end up buying products such as unit-linked plans (ULIP) and endowment plans that offer the dual benefit of and investment. 

Whether products make for good investment products is a different question altogether. In our opinion, you must keep your and investment needs separate. However, this is not what we intend to discuss in this article. A lot of people buy such products just to save taxes. We want to highlight that many such products may not even provide you the expected tax benefits.

Which premium is tax deductible?

Any amount paid towards premium for yourself, your spouse and children qualify for deduction under Section However, premium paid by you for parents/siblings/in-laws is not eligible. Please note tax deduction is subject to an overall ceiling of Rs 1.5 lacs under Section

How much premium is tax deductible?

A common perception is that the entire premium qualifies for tax deduction. However, that is not the case. Not all premium paid is tax deductible. If the policy is issued on or before March 31, 2012, annual premium up to a maximum of 20% of the Sum Assured is tax deductible. In case the policy is issued on or after April 1, 2012, annual premium up to a maximum of 10% of Sum Assured is tax deductible. An additional relaxation of 5% (i.e. up to 15% of Sum Assured) is available to person suffering from disability or sever disability (as specified under Section 80 U) or to those suffering from a disease or ailment as specified under Section 80DDB.  For a policy, Sum Assured is the minimum amount assured to the nominee (of the policyholder) in the event of death of the policy holder. 

Let’s consider an example. If you purchase an policy with a sum assured of Rs 8 lacs and an annual premium of Rs 1 lacs, only Rs 80,000 (10% of Sum Assured) is tax deductible. You won’t get any tax benefits for the balance premium. Any premium in excess of the aforesaid limit (10% of Sum Assured for the new policies) shall not qualify for tax deduction under section of the Act. 

Image via Shutterstock

Taxation of proceeds

Getting tax deductions on premium payments is one part. Other common perception is that the maturity proceeds from products are exempt from tax too. This is also not true.

Any proceeds from the policy resulting from the death of the policyholder are tax free. Please note that the proceeds from the policies (other than in case of death) that do not meet the aforementioned criteria (percentage of sum assured) are taxable at the time of maturity. Hence, for any new policy purchase, where annual premium for any year during term of the policy exceeds 10% of the sum assured, the proceeds (other than in case of death) will be taxable. The proceeds shall be taxed at policy holder’s marginal rate (as per slab).

Which products are the worst hit?

Pure plans (term plans) are unlikely to be hit by these conditions. Typically, the sum assured in term plans is a very high multiple of annual premium. For instance, For a 30 year old non-smoker male, sum assured of Rs 1 crore will cost an annual premium of Rs 6,000-12,000. There are no maturity proceeds in a term plan. Death benefits are, in any case, exempt from tax.

The problem is there for plans which provide investment benefits too i.e. products such as endowment plans and ULIPs where sum assured is a much lower multiple of annual premium.

Under IRDA guidelines, for a product (for a person aged less than 45 years) with a policy term of 10 years or more, sum assured shall be at least 10 times annual premium. So, in such cases, you will receive tax benefits for sure. However, if the applicant’s age is 45 years or more or if the policy term is less than 10 years, IRDA has relaxed this minimum sum assured limitation. It is in these cases that you might lose out on tax benefits. Some plans give you the option of choosing your sum assured. If you are looking for tax benefits, choose the sum assured accordingly.

Single premium policies are the worst hit. These are marketed as investment products and thus sum assured is kept low to enhance returns (lower sum assured means lower mortality charges and thus greater part of the premium gets invested). For single premium plans, sum assured is typically 1.25-1.5 times the premium. Hence, investment in such plans will not qualify for tax deduction.

Early surrender/termination of products

As per Section of the Act, if you terminate your participation in a ULIP (by not paying premium or giving notice to the company) before paying premium for five years, the aggregate amount of tax deductions allowed in the previous years for payment of premium shall be disallowed. The income for such previous years shall be adjusted accordingly and the policy holder will have to pay tax accordingly. For products other than ULIPs, the premium has to be paid for atleast 2 years to avoid reversal of tax benefits taken in the previous years. For single premium policies, the contract should not be cancelled within two years of commencement of to avoid reversal of tax benefits.

Hence, you must exercise extra caution. If you purchase a wrong product, you can either terminate the policy and forgo the tax benefits claimed in the previous years or continue with the wrong product for the minimum number of years. The products are typically front loaded i.e. charges are higher in the earlier years. Therefore, if you surrender before the minimum prescribed period, not only do you forgo the tax benefits but also take a hit on your returns due to higher charges in the initial years.

TDS on proceeds

Most retail customers are not aware of these conditions. Thus, they are likely to fall short of tax compliance.  Till now, there was no easy way for even the taxman to find out about your non-compliance. However, in the budget 2014-2015, the government moved to plug in this gap by introducing a provision for tax deduction at source (TDS) of 2% if the proceeds are not tax-exempt. Now, the onus is on the company to deduct TDS of 2% if the proceeds are not tax exempt. This will leave a trail for the department to follow to your door steps and send a tax demand. No TDS shall be deducted if the maturity proceeds are less than Rs 1 lac.

Image via Shutterstock

Things to remember

A financial product’s tax structure is one of the critical elements that are considered before purchase of a financial product. However, you must never purchase a financial product just to save taxes.  

We advise to keep your and investment needs separate. As discussed above, if you buy a pure term plan, the aforementioned tax restrictions will never be a problem as the sum assured is a very high multiple of premium paid. It is when you mix your investment and needs that these restrictions can come into play. 

You need to understand that purchase of a product involves a long term commitment to pay annual premium. If you realize that you have purchased a wrong product, even termination of such plans shall have unintended tax consequences as discussed above. 

 

The author is a Sebi-registered Investment adviser and founder of PersonalFinancePlan.in
image
Business Standard
177 22

All you need to know about life insurance and its tax implications

Most people don't buy right insurance products; they just given in to best sales presentation

Most retail investors use products as tax saving instruments. Under Section of the Act, premium up to a maximum of Rs 1.5 lakh per financial year qualifies for tax deduction. Most of us leave tax planning till the very end of financial year. When the financial year end approaches, most of us give in to the best sales presentation from a financial intermediary without understanding the product features completely.

Financial planners often advocate that retail customers shall not mix their and investment needs. Even then, in the rush to meet tax deduction limit targets, most of us end up buying products such as unit-linked plans (ULIP) and endowment plans that offer the dual benefit of and investment. 

Whether products make for good investment products is a different question altogether. In our opinion, you must keep your and investment needs separate. However, this is not what we intend to discuss in this article. A lot of people buy such products just to save taxes. We want to highlight that many such products may not even provide you the expected tax benefits.

Which premium is tax deductible?

Any amount paid towards premium for yourself, your spouse and children qualify for deduction under Section However, premium paid by you for parents/siblings/in-laws is not eligible. Please note tax deduction is subject to an overall ceiling of Rs 1.5 lacs under Section

How much premium is tax deductible?

A common perception is that the entire premium qualifies for tax deduction. However, that is not the case. Not all premium paid is tax deductible. If the policy is issued on or before March 31, 2012, annual premium up to a maximum of 20% of the Sum Assured is tax deductible. In case the policy is issued on or after April 1, 2012, annual premium up to a maximum of 10% of Sum Assured is tax deductible. An additional relaxation of 5% (i.e. up to 15% of Sum Assured) is available to person suffering from disability or sever disability (as specified under Section 80 U) or to those suffering from a disease or ailment as specified under Section 80DDB.  For a policy, Sum Assured is the minimum amount assured to the nominee (of the policyholder) in the event of death of the policy holder. 

Let’s consider an example. If you purchase an policy with a sum assured of Rs 8 lacs and an annual premium of Rs 1 lacs, only Rs 80,000 (10% of Sum Assured) is tax deductible. You won’t get any tax benefits for the balance premium. Any premium in excess of the aforesaid limit (10% of Sum Assured for the new policies) shall not qualify for tax deduction under section of the Act. 

Image via Shutterstock

Taxation of proceeds

Getting tax deductions on premium payments is one part. Other common perception is that the maturity proceeds from products are exempt from tax too. This is also not true.

Any proceeds from the policy resulting from the death of the policyholder are tax free. Please note that the proceeds from the policies (other than in case of death) that do not meet the aforementioned criteria (percentage of sum assured) are taxable at the time of maturity. Hence, for any new policy purchase, where annual premium for any year during term of the policy exceeds 10% of the sum assured, the proceeds (other than in case of death) will be taxable. The proceeds shall be taxed at policy holder’s marginal rate (as per slab).

Which products are the worst hit?

Pure plans (term plans) are unlikely to be hit by these conditions. Typically, the sum assured in term plans is a very high multiple of annual premium. For instance, For a 30 year old non-smoker male, sum assured of Rs 1 crore will cost an annual premium of Rs 6,000-12,000. There are no maturity proceeds in a term plan. Death benefits are, in any case, exempt from tax.

The problem is there for plans which provide investment benefits too i.e. products such as endowment plans and ULIPs where sum assured is a much lower multiple of annual premium.

Under IRDA guidelines, for a product (for a person aged less than 45 years) with a policy term of 10 years or more, sum assured shall be at least 10 times annual premium. So, in such cases, you will receive tax benefits for sure. However, if the applicant’s age is 45 years or more or if the policy term is less than 10 years, IRDA has relaxed this minimum sum assured limitation. It is in these cases that you might lose out on tax benefits. Some plans give you the option of choosing your sum assured. If you are looking for tax benefits, choose the sum assured accordingly.

Single premium policies are the worst hit. These are marketed as investment products and thus sum assured is kept low to enhance returns (lower sum assured means lower mortality charges and thus greater part of the premium gets invested). For single premium plans, sum assured is typically 1.25-1.5 times the premium. Hence, investment in such plans will not qualify for tax deduction.

Early surrender/termination of products

As per Section of the Act, if you terminate your participation in a ULIP (by not paying premium or giving notice to the company) before paying premium for five years, the aggregate amount of tax deductions allowed in the previous years for payment of premium shall be disallowed. The income for such previous years shall be adjusted accordingly and the policy holder will have to pay tax accordingly. For products other than ULIPs, the premium has to be paid for atleast 2 years to avoid reversal of tax benefits taken in the previous years. For single premium policies, the contract should not be cancelled within two years of commencement of to avoid reversal of tax benefits.

Hence, you must exercise extra caution. If you purchase a wrong product, you can either terminate the policy and forgo the tax benefits claimed in the previous years or continue with the wrong product for the minimum number of years. The products are typically front loaded i.e. charges are higher in the earlier years. Therefore, if you surrender before the minimum prescribed period, not only do you forgo the tax benefits but also take a hit on your returns due to higher charges in the initial years.

TDS on proceeds

Most retail customers are not aware of these conditions. Thus, they are likely to fall short of tax compliance.  Till now, there was no easy way for even the taxman to find out about your non-compliance. However, in the budget 2014-2015, the government moved to plug in this gap by introducing a provision for tax deduction at source (TDS) of 2% if the proceeds are not tax-exempt. Now, the onus is on the company to deduct TDS of 2% if the proceeds are not tax exempt. This will leave a trail for the department to follow to your door steps and send a tax demand. No TDS shall be deducted if the maturity proceeds are less than Rs 1 lac.

Image via Shutterstock

Things to remember

A financial product’s tax structure is one of the critical elements that are considered before purchase of a financial product. However, you must never purchase a financial product just to save taxes.  

We advise to keep your and investment needs separate. As discussed above, if you buy a pure term plan, the aforementioned tax restrictions will never be a problem as the sum assured is a very high multiple of premium paid. It is when you mix your investment and needs that these restrictions can come into play. 

You need to understand that purchase of a product involves a long term commitment to pay annual premium. If you realize that you have purchased a wrong product, even termination of such plans shall have unintended tax consequences as discussed above. 

 

The author is a Sebi-registered Investment adviser and founder of PersonalFinancePlan.in

image
Business Standard
177 22