Many of us feel that the benefit amount we receive on the maturity of all life insurance policies is always tax-free. However that is not correct because not all life insurance policies will provide you a tax exemption on the maturity amount. Most of the Life insurance policies offer tax benefits on the maturity amount but not all of them are tax-free. There are some conditions which a life insurance policyholder has to fulfill after which the policy availed by him/her is eligible for tax benefits. The proceeds received on maturity of the life insurance policy will be exempted from tax if the following conditions are fulfilled in accordance with section 10(10)D of Income tax Act:
1. The amount has been invested for a period of at least 5 years and has not been withdrawn before that
2. The ratio between Premium and Sum Assured is at least 1:5 in ALL the years and has not been violated even once.
If the above 2 criteria are fulfilled, then the maturity proceeds from the insurance policies are tax free under section 10(10)D, and not otherwise. If any one of the above conditions are violated even for 1 year, the maturity proceeds would not be tax free under section 10(10D) of Insurance Act 1938.
It is a good thing that all our traditional (non market linked) plans such as endowment assurance ,money back plan , whole life plan , etc are designed by keeping the sum assured more than 5 times of the premium amount which automatically makes their maturity proceeds tax-free. So one need not worry about checking the details of his/her policy if its a traditional insurance plan. But yes, this check needs to be done in case of unit-linked insurance policies, i.e., ULIPS purchased before September 2010. The ULIPs then did not necessarily fulfill the criteria of 5 times and hence many customers will miss out on the tax-free maturity amount. However if a person has purchased a ULIP policy after September 2010, then he/she need not worry.
According to the new guidelines issued by the Insurance regulator, the Minimum Sum Assured in a ULIP, for a person less than 45 years of age is 10 times the Annualized Premium or (0.5 x T x Annualized Premium), whichever is higher, where T is the Policy Term. For a person more than 45 years of age is, Minimum Sum Assured is 7 times the Annualized Premium or (0.25 x T x Annualized Premium), whichever is higher. Thus it is definitely more than 5 times. The calculation stands favourable in case of Single Premium policies too. Minimum Sum Assured in Single premium policies is equal to 1.25 times the Single Premium Paid for person less than 45 years of age but for person more than 45 years of age, it is 1.1 times the Single Premium Paid. The maximum amount of Sum Insured that can be opted for is 5 times the premium. Thus in single premium ULIPs, maturity benefits may not be taxable if the sum assured is not chosen as at least 5 times of the premium amount. And if it is not then the maturity benefits become taxable in the hands of the investor.
Moreover, according to the new guidelines of ULIP, the policy cannot be completely withdrawn or surrendered before completion of 5 years. Hence the clause # 1 gets automatically fulfilled. Previously the norms were different and lots of policies would not have tax-free maturity benefits. But one can relax now and purchase his choice of plan without worrying too much about tax-free maturity amount.