Taxmann's Analysis | Taxation of Life Insurance Policies from 01-04-2023

When selecting life insurance, making a prudent decision involves more than just considering coverage; it also encloses tax implications. Section 10(10D) of the Income-tax Act, 1961 provides tax exemption for any sum received under a life insurance policy, including the sum allocated by bonus on such policy. However, if the premium amount is more than the limits prescribed, no exemption will be provided except in the case of the policyholder’s death.

In the beginning, the tax exemption would not be allowed only if the policy premium for any of the years during the term of such policy exceeded a certain percentage of the sum assured. Thereafter, the Finance Act, 2021 introduced a specified monetary limit on premiums for unit-linked insurance policies (ULIPs). Further, ULIPs were included in the definition of a capital asset, clarifying that income from ULIPs shall be taxable under the head of capital gains. However, for other life insurance policies, only the percentage threshold remained, and there was no clarity as to under which head the income would be taxable. Accordingly, the Finance Act, 2023 introduced a monetary limit on regular life insurance policies and clarified that income from such life insurance policies if not covered under Section 10(10D) are taxable under the head Income from Other Sources.

The CBDT has issued clarification vide Circular No. 15 of 2023, dated 1608-2023 regarding the taxability of high premium life insurance policies in the different scenarios. Further, the CBDT has notified a new Rule 11UACA vide Notification No. 61/2023, dated 16-08-2023 prescribing the manner for the computation of taxable income where the life insurance policies other than ULIP are not exempted under Section 10(10D). In this article, we have discussed the taxability of life insurance policies under different scenarios with the clarifications issued by the CBDT:

1. The Finance Act, 2023 changes the rule of taxation

1.1. No exemption for high premium life insurance policies

The Finance Act 2023 has inserted the sixth and seventh provisos to Section 10(10D) to provide that no exemption shall be available in respect of life insurance policies issued on or after 01-04-2023 if the premium payable for any of the previous years during the term of the policy exceeds Rs. 5 lakhs (“high-premium life insurance policies”). The CBDT has clarified that the premium paid for the Term Life Insurance Policies shall not be counted for checking Rs. 5 lakhs limit.

Further, the premium amount shall not include the GST payable on it. However, the CBDT has clarified this aspect only regarding life insurance policies issued on or after 01-04-2023.

The sixth proviso deals with when a person receives a sum under a single life insurance policy. The seventh proviso deals with when a person receives a sum under multiple life insurance policies.

1.2. Trigger points of Sixth and Seventh proviso

1.2-1. Sixth Proviso

The sixth proviso shall be triggered if the following conditions are satisfied:

(i) The assessee receives the sum under a single life insurance policy issued on or after 01-04-2023; and

(ii) The annual premium payable for any of the previous years during the term of such policy exceeds Rs. 5,00,000.

If both conditions are satisfied, the sixth proviso is attracted, and the assessee shall not be eligible to claim an exemption in respect of such policy.

1.2-2. Seventh Proviso

The seventh proviso shall be triggered if the following conditions are satisfied:

(i) The assessee receives the sum under the life insurance policy or policies issued on or after 01-04-2023;

(ii) The annual premium is payable by the assessee for more than one life insurance policy issued on or after 01-04-2023;

(iii) The aggregate amount of premium in any of the previous years during the term of any of those policies exceeds Rs. 5,00,000.

If the above conditions are satisfied, the seventh proviso is attracted, and the assessee shall not be eligible to claim an exemption in respect of the sum received under the life insurance policy or policies whose premium is not falling within the aggregate limit of Rs. 5,00,000.

The seventh proviso deals with the situation wherein the premium is payable by a person for multiple life insurance policies. The said proviso allows the exemption for all those policies whose aggregate premium in any year during the tenure of such multiple policies is less than Rs. 5 lakhs. It implies if more than one life insurance policy is issued on or after 01-04-2023, and the premium payable for each of such policies during any year does not exceed Rs. 5 lakhs, but the aggregate of premium payable for all such policies exceeds Rs. 5 lakhs in a year, the exemption under section 10(10D) shall be allowed only in respect of those policies whose premium falls within the aggregate limit of Rs. 5 lakhs. In other words, the exemption shall be allowed only with respect to low premium policies, the aggregate of which is under Rs. 5 lakhs.

2. CBDT’s guidelines on the applicability of sixth and seventh proviso to section 10(10D)

To determine the exemption under Section 10(10D) for the current previous year in respect of life insurance policies issued on or after 01-04-2023 (‘eligible life insurance policies’), the CBDT has issued1 clarifications on the following two situations:

 Assessee receives no sum from any such life insurance policies in the past years, or sum is received, but assessee chose not to claim an exemption under section 10(10D);

 The sum is received in the past years, and the assessee has claimed exemption under Section 10(10D).

2.1. Where no consideration is received, or assessee claims no exemption on the sum received

An assessee has not received any sum from eligible life insurance policies in past years or if the sum is received, but the assessee did not claim exemption on such sum. In such cases, the exemption under Section 10(10D) for the current previous year shall be determined in the following manner:

2.1-1. Sum is received from one life insurance policy only

The assessee shall be eligible to claim exemption only if the annual premium payable does not exceed Rs. 5 lakhs in any year during the term of the eligible life insurance policy. If the premium payable exceeds Rs. 5 lakhs in any year, the sixth proviso is attracted, and the sum received from such life insurance policy shall not be eligible for exemption under Section 10(10D).

Example 1, Mr Raj has a life insurance policy A satisfying all the conditions of Section 10(10D), except the conditions provided by Sixth and Seventh Proviso. Determine the exemption on maturity in the previous year 2033-34, assuming he did not receive any consideration under any other eligible life insurance policies in past years.

Life Insurance Policy A

Date of policy 01-04-2023

Annual premium Rs. 4,00,000

Sum assured Rs. 40,00,000

Consideration received on 01-04-2033 on maturity Rs. 45,00,000

As the annual premium does not exceed the prescribed limit of Rs. 5 lakhs, the consideration received on maturity will be exempt under Section 10(10D).

Example 2, Mr Raj has a life insurance policy A satisfying all the conditions of Section 10(10D), except the conditions provided by Sixth and Seventh Proviso. Determine the exemption on maturity in the previous year 2033-34, assuming he did not receive any consideration under any other eligible life insurance policies in past years.

Life Insurance Policy A

Date of policy 01-04-2023

Quarterly premium paid during 2023-24 Rs. 1,30,000

Annual premium paid from 2024-25 and onwards Rs. 4,00,000

Sum assured Rs. 40,00,000

Consideration received on 01-11-2033 on maturity Rs. 45,00,000

Though the annual premium does not exceed the prescribed limit of Rs. 5 lakh, but the aggregate of quarterly payment premiums during the first year exceeded Rs. 5 lakhs. Thus, the sixth proviso is attracted, and no exemption would be available as the premium payable exceeded Rs. 5 lakhs in any year during the policy term. Thus, the consideration received on maturity will not be exempt under section 10(10D).

2.1-2. Sum is received from more than one eligible life insurance policies

The assessee shall be eligible to claim the exemption for all eligible life insurance policies if the aggregate of premium payable on all such life insurance policies does not exceed Rs. 5 lakhs in any year during their policy term. If the aggregate of premium payable on all eligible life insurance policies exceeds Rs. 5 lakhs in any of the years, the consideration received from only those life insurance policies shall be exempt whose aggregate premium payable does not exceed Rs. 5,00,000.

Example 3, Mr Raj has multiple eligible life insurance policies satisfying all the conditions of Section 10(10D), except the conditions provided by Sixth and Seventh Proviso. Determine the exemption on maturity in the previous year 2033-34, assuming he did not receive any consideration under any other eligible life insurance policies in past years.

Since Mr Raj has invested in multiple policies issued on or after 01-04-2023, and the aggregate of premiums payable in any year during such policies term exceeds Rs. 5,00,000, the Seventh proviso will apply. Accordingly, the exemption shall be allowed only for those eligible low-premium policies whose aggregate premium does not exceed the threshold limit of Rs. 5 lakhs.

Policy D is not eligible for exemption since its annual premium exceeds the threshold limit of Rs. 5 lakhs.

Out of the remaining policies, A, B and C, the exemption can be claimed only for those policies whose aggregate premium during any year does not exceed Rs. 5,00,000. He should choose those policies for the exemption that gives him maximum benefit. In this exercise, two factors should be considered: the yield of the policy and the policies that can exhaust the full limit of Rs. 5,00,000.

 As the yield of Policy B is maximum (Rs. 30 lakhs), this should be considered for exemption.

 The annual premium of Policy B is Rs. 3,00,000, so the next policy should be one having maximum yield but the premium of that should not exceed Rs. 2,00,000.

 The next high-yield policy is Policy C (Rs. 28 lakhs), but it cannot be considered as its annual premium is Rs. 4,00,000. So he will have to choose Policy A for the exemption.

Accordingly, the consideration received on maturity of Policy A and B shall be eligible for exemption under section 10(10D).

Example 4, Suppose in Example 3, Mr Raj has paid a quarterly premium of Rs. 1,30,000 towards Policy A in its first year and thereafter annual premium of Rs. 2,00,000. What would be the implication?

As he pays an annual premium of Rs. 5.2 lakhs on Policy A, he cannot claim an exemption for such policy. Though the annual premium of Policy B and Policy C is within the prescribed limit, i.e., Rs. 3 lakh and Rs. 4 lakh, respectively, but the aggregate annual premium of both policies is Rs. 7 lakhs. Thus, he can claim the exemption either for Policy B or for Policy C. It is advisable that he should claim the exemption for Policy B having maximum yield.

2.1-3. Summary

The situations discussed above have been summarised in the following table:

2.2. Where an exemption is claimed for consideration received from an eligible life insurance policy in any previous year

The assessee has received any sum from an eligible life insurance policy during the preceding year and claimed the exemption for the same (‘old eligible life insurance policies’). In such a case, the exemption under Section 10(10D) during the current previous year shall be determined in the following manner:

2.2-1. Sum is received from one policy only

The assessee can claim exemption only if the premium payable on such eligible policy and old eligible life insurance policies does not exceed Rs. 5 lakhs in any year during the term of such eligible policy. If the premium payable exceeds Rs. 5 lakhs in any year, the sum received from such eligible policy shall not be eligible for exemption under Section 10(10D).

Example 5, Mr Raj has the following eligible life insurance policies satisfying all the conditions of Section 10(10D), except the conditions provided in Sixth and Seventh Proviso. Determine the exemption on maturity in the previous year 2034-35, assuming he received consideration on maturity of Policy A in the previous year 2033-34.

The sum received on Policy A would be eligible for exemption as the annual premium of Policy A does not exceed Rs. 5 lakhs. As the aggregate premium payable for Policy A and B does not exceed Rs. 5 lakhs in any term of the policy, Policy B shall also be eligible for exemption under Section 10(10D).

Suppose in the above example, the annual premium for Policy B is Rs. 4,00,000. In that case, the sum received from Policy B shall not be eligible for exemption as the amount of premium payable on Policy B and Policy A exceeded the threshold limit of Rs. 5 lakhs.

2.2-2. Sum is received from more than one policies

The assessee can claim exemption only if the premium payable on more than one eligible policy and old eligible life insurance policies on which exemption was claimed in the prior year does not exceed Rs. 5 lakh in any year during their term. If the premium payable exceeds Rs. 5 lakh in any year, the sum received from the eligible policy shall not be eligible for exemption under section 10(10D).

Example 6, Mr Raj has the following eligible life insurance policies satisfying all the conditions of Section 10(10D), except the conditions provided in Sixth and Seventh Proviso. Determine the exemption on maturity in the previous year 2034-35, assuming he claimed exemption on consideration received on the maturity of Policy A in the previous year 203334.

All the policies shall be eligible for the exemption because the annual premium for each policy does not exceed Rs. 5 lakhs in any year. However, as the aggregate premium of all policies exceeds Rs. 5 lakhs in any year (in this case, it exceeded in the previous year 2024-25 and onwards), the exemption shall be allowed only with respect to those policies whose aggregate premium does not exceed the threshold limit of Rs. 5 lakhs. Since he has already claimed exemption for Policy A, its annual premium shall also be considered while computing the limit of Rs. 5 lakhs.

Out of the remaining policies B, C and D, the exemption can be claimed only for those policies whose aggregate premium, including premium payable on old eligible life insurance policy (Policy A) during any year, does not exceed Rs. 5,00,000.

The annual premium of the old eligible policy was Rs. 2,00,000. Thus, he should choose those policies whose aggregate annual premium is Rs. 3,00,000 and give him maximum benefit. In this exercise, two factors should be considered: the yield of the policy and the policies that can exhaust the full limit of Rs. 5,00,000.

 As the yield of Policy B is maximum (Rs. 25 lakhs), this should be considered for exemption.

 The annual premium of Policy B is Rs. 1,00,000, so the next policy should be one whose premium does not exceed Rs. 2,00,000.

 He cannot choose Policy D because its annual premium is Rs. 4,00,000. So he will have to choose Policy C.

Accordingly, the consideration received on maturity of Policy B and C shall be eligible for exemption under section 10(10D).

Example 7, Suppose in Example 6, the annual premium for Policy A is Rs. 4,00,000. In that case, the exemption will be available only for Policy B as the aggregate annual premium of Policy B (Rs. 1,00,000), and Policy A (Rs. 4,00,000) does not exceed Rs. 5 lakh. In all other combinations, the aggregate premium would exceed Rs. 5,00,000. Thus, the sum received from Policy C and Policy D shall not be exempt under Section 10(10D).

Example 8, Suppose in Example 6, Mr Raj did not claim an exemption in respect of the sum received from Policy A. In that case, out of the remaining policies B, C and D, the exemption can be claimed only for those policies whose aggregate premium during any year does not exceed Rs. 5,00,000. He should choose those policies for the exemption that gives him maximum benefit. In this exercise, two factors should be considered: the yield of the policy and the policies that can exhaust the full limit of Rs. 5,00,000.

 As the yield of Policy B is maximum (Rs. 25 lakhs), this should be considered for exemption.

 The annual premium of Policy B is Rs. 1,00,000, so the next policy should be one whose premium should be Rs. 4,00,000.

 He should not choose Policy C because he will not exhaust the entire limit of Rs. 5,00,000. So he should choose Policy D for exemption.

Accordingly, the consideration received on maturity of Policy B and D shall be eligible for exemption under section 10(10D), and consideration from Policy C shall be taxable.

Summary

The situations discussed above have been summarised in the following table:

2.2-3. What if a new Policy is taken after expiry of life cycle of all existing Policy?

If the assessee has more than one policy at any time, the  seventh proviso to Section 10(10D) applies. In such a case, all multiple policies shall be clubbed into one life cycle that starts from the first year of the first policy and ends with the last year of the last policy. The exemption should be claimed up to the threshold limit of Rs. 5 lakhs during the life cycle of all such policies. If any new policy has been taken during the life cycle of the existing policies, the annual premium of such policy shall also become part of the threshold limit. Here, the life cycle means the premium payment term of the policy and not the entire policy term as such. The CBDT’s circular has squarely covered this aspect.

However, what if the new policy is issued after the expiry of the life cycle of existing policies? The CBDT has addressed this issue as well by providing that the exemption can be claimed again when the new life cycle begins. Thus, in the case of multiple policies, the threshold limit of Rs. 5 lakhs shall be applicable until the expiry of the premium payment term of the last policy. When the premium payment term of all such policies ends, the applicability of the  seventh proviso shall be checked afresh if the assessee takes new policy.

It is worth noting that this clarification pertains specifically to life insurance policies (other than ULIPs). Consequently, a similar clarification from the CBDT for Unit-Linked Insurance Policies (ULIPs) would be highly beneficial.

Example 9, Mr Raj has the following eligible life insurance policies satisfying all the conditions of Section 10(10D), except the conditions provided in Sixth and Seventh Proviso. Determine the exemption on maturity of each policy assuming he did not receive any consideration under any other eligible life insurance policy in earlier previous years.

In the above example, the consideration under life insurance policies “A” and “B” will be exempt for the previous year 2043-44 and previous year 2048-49 respectively, under Section 10(10D) since the aggregate of the annual premium payable for the life insurance policies “A” and “B” together did not exceed Rs 5,00,000 for any of the previous years during the term of life insurance policies “A” and “B”.

3. Tax on excess or high premium life insurance policies

The Finance Act, 2023 has also inserted clause (xiii) to sub-section 2 of section 56. It provides that the sum received under excess or high premium life insurance policies is chargeable to tax under the head ‘other sources’. The sum received under a life insurance policy in excess of the aggregate premium paid during the policy term shall be taxable. However, if the premium has been claimed as a deduction under any other provision of the Act, it shall not be included in the aggregate of the premium to be deducted while computing the taxable income.

3.1. The Income-tax (16th Amendment) Rules, 2023

The CBDT has notified Rule 11UACA2 prescribing manner to compute income in respect of sum received under excess or high premium life insurance policies under Section 56(2)(xiii). Such computation shall be made in the following manner:

3.1-1. Sum received from life insurance policies for the first time

If the assessee has received the sum from high-premium life insurance policies for the first time, then the income shall be calculated in the following manner:

Particulars Amount

Sum received under the life insurance policy (including bonus) during the first previous year ***

Less: Aggregate amount of premium paid during the term of policy till the date of receipt [Note]

Note: If the deduction for premium has been claimed under any other provision of the Act, the amount of such premium shall not be included.

3.1-2. Sum received from life insurance policies for the second time and subsequently

If the sum received from life insurance policies isn’t the sum received for the first time, then the income shall be calculated in the following manner:

Particulars Amount

Sum received under the life insurance policy (including bonus) during the subsequent previous year ***

Less: Aggregate amount of premium paid during the term of the policy till the date of receipt of aforesaid amount (excluding the premium that has already been considered while computing income for earlier years) [Note]

Note: If the deduction for premium has been claimed under any other provision of the Act, the amount of such premium shall not be included.

Example 10, Mr Raj has the following eligible life insurance policies satisfying all the conditions of Section 10(10D), except the conditions provided in Sixth and Seventh Proviso. Determine the exemption and taxable income (if any), assuming he did not receive any consideration under any other eligible life insurance policies in earlier previous years.

The sum received from Policy A shall be eligible for exemption as the annual premium does not exceed Rs. 5 lakhs. However, the sum received from Policy B isn’t eligible for exemption as the premium payable exceeds Rs. 5 lakhs.

Since the exemption under Section 10(10D) is not applicable to Policy B, the sum received from such policy shall be chargeable to tax. The computation of taxable income on such receipt shall be made in the following manner:

Computation of taxable income for the previous year 2028-29:

for the first time from Policy B

allocated by way of bonus

Less: Aggregate of premium paid till receipt of maturity sum from Policy B

x 5 (from 01-04-24 till 31-03-2029)

Computation of taxable income for the previous year 2033-34:

Less: Aggregate of premium paid till receipt of maturity sum from Policy B 6,00,000 x 10 (from 01-04-24 till 31-03-34) minus Rs. 30,00,000 (amount of premium considered while computing taxable income in the year 2028-29)

3.2. Tax rate on income from excess or high premium life insurance policies

The income from excess or high premium life insurance policies shall be taxable at normal tax rates as applicable in the case of an assessee.

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