How to buy life insurance to maximise tax-free maturity amount after CBDT's new curbs The new guidelines have been issued after Budget 2023 put a cap on annual premium till which tax-exemption on life insurance policies will be available from April 1, 2023
Naveen Wadhwa
Vice-President, Taxmann
Dipen Mittal
AGM, Taxmann
When buying a life insurance policy, an individual should evaluate the cover on certain factors such as tenure of the policy, premium paying term, maturity amount, insurance coverage, and bonus. From FY 2023-24, one should also check "Maximum Tax Exemption" available on a life insurance policy.
Until March 31, 2023, an endowment life insurance policy or traditional life insurance policy (except ULIP) had the EEE tax rating (Exempt-Exempt-Exempt). It means the investment, earnings, and maturity of a life insurance policy would be tax neutral. The maturity amount enjoyed exemption under Section 10(10D) of the Income-tax Act, 1961 as long as the premium amount did not exceed 10% of the sum insured amount.
The position changed after the Budget 2023 put a cap on tax exemption of endowment life insurance policies issued on or after April 1, 2023. Now no exemption is allowed for the life insurance policies issued on or after April 1, 2023 if the premium payable in any year during the policy term exceeds Rs 5 lakh. This rule will apply even if one holds multiple life insurance policies each with an annual premium below Rs 5 lakh and the cumulative premiums paid in any financial year across all such policies exceeds Rs. 5 lakh.
When it comes to buying life insurance and when the policy matures, it's a good idea to be smart about it now to get most of the income tax benefits.
Smart Tips for Buying Life Insurance now
If you plan to pay more than Rs 5 lakh for life insurance premiums, here are some simple tips to remember.
First, avoid getting a single high-premium insurance policy. Instead, choose policies with lower premium amount. This gives you two advantages. First, if you face financial difficulties, you can cancel one of these smaller policies. Second, it's like having small Lego pieces that you can use to reach the Rs 5 lakh limit.
Another useful trick is to consider taking out smaller insurance policies in the names of your spouse or children. This is especially helpful if you're buying insurance for investment reasons. The Rs 5 lakh limit applies individually to each person. What this means is that when the policy matures, the money your spouse or children get won't be subject to taxes. Also, certain rules about clubbing of income won't apply either.
Let's take an example: Mr. Sharma wants to buy a life insurance policy with a yearly premium of Rs 6 lakh. Since this is more than Rs 5 lakh, any money he receives from this policy won't be tax-exempt. To avoid this, he can consider getting multiple policies, each with a premium of Rs 1 lakh, in his name, his spouse's name, or his children's name. By doing this, he can prevent having to pay taxes on the money he gets when the policy matures.
Smart Tips for Maximising the Maturity Tax Exemption
Should you find yourself in a scenario where you've paid premiums exceeding Rs 5 lakh for multiple life insurance policies and need to select some policies for tax exemptions, consider these handy suggestions.
To begin with, prioritise insurance policies that offer substantial yield (returns) on the premium paid. Additionally, strategies your selections to ensure you fully utilise the Rs 5 lakh threshold.
Let's take an example: Mr. Sharma has the following life insurance policies.
Since Mr Sharma has invested in multiple policies issued on or after April 1, 2023, and the aggregate of premiums payable in any year during such policies term exceeds Rs 5 lakh, the tax exemption shall be allowed only for those eligible low-premium policies whose aggregate premium does not exceed the threshold limit of Rs 5 lakh.
From the table above, Policy D isn't eligible for tax exemption due to its yearly premium exceeding the Rs 5 lakh thresholds.Among the remaining policies, A, B, and C, the tax exemption can be claimed only for those with an annual premium within the Rs 5 lakh limit. The optimal selection should be based on maximising benefits.Policy B has the highest yield (Rs. 30 lakh) and should thus be chosen for tax exemption. The annual premium of Policy B is Rs 3 lakh.The next policy should have a maximum yield, but the premium should not exceed Rs. 2 lakh. This is because from annual limit of Rs 5 lakh, only 2 lakh is left. Do note that if insurance paid on other insurance policies exceeded Rs 2 lakh, then only Policy B would have been eligible for exemptions. Although Policy C has a high yield (Rs. 28 lakh), its annual premium is Rs. 4,00,000, rendering it ineligible. Policy A becomes the choice for exemption.Consequently, the maturity amount from Policy A and B will qualify for exemption under Section 10(10D).
From February 1, 2021, the tax exemption on ULIPs has been restricted to insurance policies with annual premium of Rs 2.5 lakh. The same tips mentioned above can be applied while buying ULIPs or if annual premium of ULIPs on aggregate basis exceeds Rs 2.5 lakh during the policy term.
(CA Naveen Wadhwa, Vice-President, Taxmann. CA Dipen Mittal, AGM, Taxmann.)
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(Disclaimer: The opinions expressed in this column are that of the writer. The facts and opinions expressed here do not reflect the views of www.economictimes.com.)
This story originally appeared on: India Times - Author:Faqs of Insurances
