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Yogi Zone

Useful articles for your finance management by our team of experts

Tax Implications of Various Life Insurance Policies

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life insurance policiesWe would know at least one person in our family who has purchased a life insurance policy. It could be traditional policy, ULIP or a Pension Plan. Most of the life insurance policies are purchased for saving tax under section 80C. Condition for eligibility under section 80C is that premium should not exceed 10% of the sum assured. We just buy these policies in a hurry right before the end of financial year i.e. March 31st. Its always recommended to compare various policies before buying. Compare and get the best quotes from Policybazaar.com and InsuringIndia.

Before buying them, we only think of the tax benefits or the maturity value. Did we ever think of the taxation aspect of these policies? Let us now check how these policies are taxed when surrendered before maturity and when kept till maturity.
Taxability of Traditional/Ulip plans

Traditional plans and unit linked plans (Ulips) are taxed in the same way. There would be three cases wherein taxation comes into consideration for these plans – Upon death of the insured, Surrendering the policy before maturity and Maturity proceeds of the policy.
Case 1: Upon death of the insured

Insurance policy proceeds received by the family members in the event of death of the policy holder is completely tax exempt under section 10 of income tax act. The family member needs to produce the death certificate to the insurer along with required proofs and directly claim the insurance amount.

Case 2: Surrendering the policy before maturity

If you surrender the policy before maturity, the taxability would depend on whether you have paid 5 premiums on the policy or not. If you have paid so, taxability would be nil. Else, the surrender value will be added to your total income for the year and taxed accordingly.

Case 3: Upon maturity

If you stay with the policy till maturity, the maturity proceeds are completely tax free.

Taxability of Pension plans

Pension plans are taxed in a completely different manner as compared to the traditional plans and ulips. There would be three cases of consideration when it comes to taxation of pension plans in India.

Case 1: Death of Policyholder

The proceeds received by the family member upon death of the policy holder is completely tax free under section 10(10D).

Case 2: Surrendering the policy before maturity

Surrendering the pension plan before maturity has serious tax implications. First of all, the premiums that you have claimed as part of deduction under section 80C will be reversed and you will have to pay tax on it. Secondly, the entire surrender value will be added to your income and you will have to pay tax on it according to your tax slab. According to latest rules of IRDA, 2/3rd of the surrender value received should be used to purchase annuity plan.

Case 3: Upon maturity

The maturity proceeds under pension plans are tax free up to 1/3rd of the amount. Rest 2/3rd of the maturity amount needs to be used to purchase annuity plans as specified by IRDA.

Conclusion

So, these are the ways in which life insurance policies are taxed. Before purchasing any policy, do consider the taxation aspect as well. Do read the terms and conditions regarding taxability of life insurance policies as some of these policies could have greater tax implications. It’s better to avoid surprises in such cases.

  • Venkateswaran Muthukrishnan

    Dear Suresh, Thanks for this article. This information is very useful. Can you please clarify the following with regard to pension plans:

    1. What is the tax implication on surrender of pension policy, if there is no tax exemption claimed under section 80C?

    2. Secondly, you mention that the entire surrender value would be added to your income and taxed accordingly. I find this interpretation would lead to double taxation of income. First, the amount invested is anyways part of the taxable income and just surrendering the policy should not ideally result in the same income getting taxed the second time.
    I agree that, if there is a gain on surrender of the policy should be taxed.

    3. Can you also please clarify under which Rule of IRDA that 2/3rds of any surrendered pension policy should be used to buy an annuity?

    Look forward to your clarifications.

    regards
    Venkat

    • Av Suresh

      Thank you, Venkateswaran.

      1)The surrender value of the pension plan will be added to your income and you will have to pay tax on it according to your tax slab.
      2)You are right. However, this is how the tax laws have been made. Probably, govt. wants us to hold onto these policies for long and not surrender at all.
      3)Section 10(10A) states that for all pension policies, only 1/3rd of balance amount can be withdrawn at any time and rest has to be used for buying annuity.

      • Satinder

        Could you pl. tell us if I do not invest 2/3 of the maturity amount in annuity then what is the tax liability.

        • Av Suresh

          Satinder, it is mandatory that 2/3rd of the amount has to be invested in annuity.

      • sona

        This is incorrect. Only surrender value will be taxable if pension policy is surrendered before maturity.

  • Kishore

    Hi,

    Thank you for a very informative article. I have a term-life policy from SBI and have paid 5 annual premiums. There was no ‘surrender’ clause in the policy. Can I still surrender the policy as per the new rules?

    • Av Suresh

      Kishore, term insurance is just a use and throw product. You can pay premiums till you want to be covered and stop paying premiums if you don’t want.

  • Anjan Bose

    Dear Suresh,

    I had purchased an ICICI Pru Life Time Pension
    II Policy in the year 2005. The annual premium amount was Rs. 10,000. I have
    availed deduction of this amount under section 80 CCC till 2003. The period of
    this policy was of 10 years. As I was under urgent need of fund, I have
    surrendered the policy just before its maturity date of 15th Mar’2015. I have
    paid a total premium amount of Rs 90,000.00 till Mar’2014. I have got Rs
    1,64,000.00 and ICICI pru Life has not deducted any TDS.

    My question is, on what amount have to pay tax
    Income tax and what is the rate of IT ?

  • sanjay

    Very informative article. It is true that most of the people ,when they take an insurance or an investment its just the returns that are highlighted and we completely forget about the implications.I have invested in TATA AIA Life insurance policy, they have launched Smart growth plus plan which offers flexibility in choosing policy term, has good policy returns and tax benefits u/s 80C & 10(10D).

  • Tripathy

    Surrender of pension unit-linked policy

    I recently surrendered(Before maturity to avoid annuity) three Unit Linked Pension Policy. The company has given me the exact surrender value without deducting 2% TDS (Note – PAN was updated in all policies from day one). Does that means these policies are covered under section 10(10D) ? The amount I have received is tax free? Note : Start dates of these policies are 20-Nov-2008,31-Oct-2009,1-Apr-2009 . Policies were surrendered on 30-May-2016.

  • sushil kumar singh

    If lic premium paid in half yearly and we paid 6 instalment then we withdraw lic before maturity so can this income is taxable or tax free

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