Taxation of ULIP proceeds to create ‘level-playing field’ with MFs, says Income Tax Department

Proceeds of high-premium Unit Linked Insurance Plans (ULIPs) has been made taxable to create a “level-playing field” with mutual funds, official sources said on Monday.

The Central Board of Direct Taxes (CBDT), that frames policy for the income tax department, had on January 18 notified the rules stating the method of calculation of capital gains with regard to ULIPs with annual premium of more than Rs 2.5 lakh and subsequently issued a circular the next day charting out various aspects of their taxation.

Income-tax department sources told PTI that the rules and guidelines were notified by the CBDT to give effect to the announcement made with regard to ULIPs in the last Union Budget.

These do not bring any new taxation provision but only clarify the method of calculation of capital gains when it comes to redeeming ULIPs in specified cases, they said.

“The Finance Act of 2021 carried out amendment in section 10(10D) of the Income-tax Act following which the sum received under ULIPs issued on or after Feb 1, 2021, shall not be exempt if the annual premium payable for any year exceeds Rs 2.50 lakh.

“This provision was enacted to create level playing field between mutual fund investment and ULIP investment,” a senior I-T department official said.

Clarifying the various aspects and concerns over the taxation of ULIP redemptions in certain cases, the official said the move was made after it was found that ULIPs were being preferred by investors for investment purposes as compared to insurance.

“In case of mutual funds, its redemption is charged to capital gains tax. However, in case of ULIP the redemption was exempt, even though the insurance part of the premium was very less and investment part of the premium was high,” the official said.

Another official said that this amendment in the Finance Act of 2021 “ensured” that both mutual fund units and ULIPs operate on the “same footing.” “However, a general exemption was provided to those cases where annual premium is not more than 2.5 lakh in a year. This 2.5 lakh benefit was provided for ULIPs (even if it was not there for mutual fund) so that premium paid for life insurance part does not get hit,” the official said.

The second official quoted above added that the Finance Act of 2021 also inserted sub-section (1B) in section 45 of the Income-tax Act to make income from ULIPs “taxable as capital gains” just like redemption from mutual fund is taxable as capital gains.

“The amendment (in the Finance Act of 2021) also made it clear that if there is more than one policy, the Rs 2.5 lakh premium limit for a year would be applied by aggregating the premium of such policies.

“Hence, there was a need for providing clarity by way of a circular, informing the investors how taxable income is to be calculated when there is more than one ULIP ,” the second officer quoted above said.