Saturday, January 8, 2011

DTC set to change tax burden on insurance

Each one of us has different rationale or purpose for availing insurance. The reasons could vary from securing ones retirement, meeting children’s education or marriage expenses or to secure one’s life. Therefore, when the proposed Direct Tax Code (DTC) becomes effective from April 1, 2012, one should assess the impact of insurance plans and take informed decisions while continuing with existing investments and for future plans.
Under DTC, the amount received under a life insurance policy would be taxed on maturity as normal income, if the premium payable in any year, during the policy term exceeds 5% of the sum assured. As per the current taxation laws, receipts from a life insurance policy are exempt from tax provided the premium payable for any of the years does not exceed 20% of the sum assured.
In case of policies which are not exempt, the amount of premium paid (up to the date of receipt of the proceeds) would be allowed as a deduction from the proceeds received under the insurance policy. i.e. if the amount received on maturity is Rs 5,00,000 and total premium paid is Rs 2,20,000, the amount taxable will be Rs 2,80,000 (5,00,000—2,20,000). However, this deduction would not be available to any amount of premium, which has already been allowed as a deduction in any previous financial year.
The maximum limit for deduction for investments in life insurance would be Rs 50,000, in addition to the deduction of Rs 100,000 available for contribution to certain approved funds. However, the limit of Rs 50,000 is a combined limit for life insurance, health insurance and tuition fees. For instance, if one makes an annual contribution of Rs 80,000 towards life insurance premium and Rs 20,000 towards provident fund, currently, the maximum deduction he would get would be Rs 100,000, but under the DTC he would get a deduction of Rs 70,000 only.
For equity-oriented life insurance schemes (where more than 65% of the total proceeds are invested in equity shares) an income distribution tax of 5% has been introduced. The income distribution tax is payable by the insurance companies. However, the distributions or payments on which such income distribution tax is paid will not be taxable in the hands of the policyholders.
The DTC is still in draft stage and may undergo further changes, more so, as India does not have a well designed social security system in place, it is important to create a retirement basket. Thus, tax payers would need to wait and watch to find out what is in store for them in the DTC

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