Government attempts half-heartedly to bring in taxation parity between mutual fund and ULIPS

Balwant Jain

The Finance minister has proposed amendments in the Income Tax Act in an attempt to make the taxation of money received from Unit Linked Insurance Policies (ULIP) of life insurance companies on par with equity mutual funds.

Present Provisions

Presently, proceeds received on life insurance policies including ULIPs enjoy tax exemption under section 10(10D) if the premium for any year during the premium paying term does not exceed 10% of the sum assured. So as long as the premium paid does not exceed 10% of the sum assured, the money received in respect of such policies are fully tax free in the hands of the policy holder. However, death claims received are fully tax free irrespective of quantum of premium paid.

Reasons and Analysis of the changes proposed

Since the long term capital gains on transfer of investments in equity mutual fund were brought under the tax net by Finance Act 2018 by introduction of section 112A, which hitherto used to enjoy full exemption under Section 10(38), there was fair demand from the mutual fund industry to bring in parity of tax treatment with ULIPs, which were essentially sold as equity investments products but had undue advantage in the form of exemption under Section 10(10D). Due to this exemption, high net worth individuals used to invest in the equity via ULIPs.

The budget has proposed to amend the Section 10(10D) to restrict the exemption in respect of ULIPs for those ULIP policies where the annual premium payable in respect of such policy does not exceed Rs. 2.50 lakhs during the premium paying term. The money received at the time of death of the policy holder will continue to enjoy full exemption under Section 10 irrespective of amount of premium or maturity value.

Though the intention seems to be clear to provide the level playing field for mutual funds and insurance companies selling ULIPs as investment product but the government has itself provided a window for those who wish to bypass this provision. In my opinion the proposals have been introduced half-heartedly because the budget proposals provide that the only those ULIP policies will be covered under the exemption where the annual policy premium does not exceed Rs. 2.50. What stops one from buying multiple ULIP policies with premium below 2.50 lakhs every year to bypass this amendment. In my opinion the government should do away with this exception and should in stead provide for aggregate of premium paid during the year by an Individual.

The proposal also provides that the ULIP policies which are not eligible for exemption under Section 10(10D), the insurance companies will have to collect Security Transaction Tax (STT) at the time of payment for such ULIP policies. The proposals will apply only in respect of ULIP policies which are issued on or after 1st February so the existing ULIP holder need not worry about the new proposals.

The writer is a tax and investment expert and can be reached at [email protected]