It often happens that a policyholder is not able to continue with its life insurance policy. The reason could be anything ranging from short of funds to better alternatives available in the market. In such a case, if a policyholder decides to surrender the policy, it is essential to know about its tax implications before withdrawing the amount. Here is a lowdown on the tax treatment of an endowment policy.
Endowment plans are life insurance policies that offer a combination of protection and investment under a single plan. In common parlance, a non-ULIP plan is referred to as an endowment plan. They are basically of two types — with profit and without profit. While ‘with profit’ gives bonuses from time to time from profits of the company, ‘without profit’ plans offer guaranteed returns and do not participate in profits. Within these two types of endowment policies, there are many variations such as money back plans, guaranteed plans, pension plans, among others.
You should know that the surrender value of a traditional insurance policy is tax-free only if the premiums of the first two years have been fully paid. Moreover, the period when the policy was issued also determines the taxability. “If the traditional life insurance policy was issued any time before March 31, 2003, it would be completely tax-free. If issued between April 1, 2003 and March 31, 2012, the surrender value would be tax-free only if the sum assured is more than 5 times the amount of the annual premium. If the policy was issued on or any time after April 1, 2012, the surrender value would be tax-free only if the sum assured is more than 10 times the annual premium amount,” said Sujit Bangar, Founder, Taxbuddy.com.
There are also certain cases when the surrendered amount can be fully taxable. Shailesh Kumar, Partner, Nangia & Co LLP said any sum received under a life insurance policy shall be exempt from tax except when such sum is received on account of the following:
1. Key man insurance policy.
2. Deposit with LIC or other specified insurer for maintenance of a dependent with disability where such dependent predeceases the assessee.
3. Insurance policy issued after April 1, 2003 but before March 31, 2012 where the premium payable for any year during the policy term exceeds 20 per cent of the sum assured.
4. Insurance policy issued after April 1, 2012 where the premium payable for any year during the policy term exceeds 10 per cent of the sum assured (provided where policy is issued after April 1, 2013 for life insurance of a person with severe disability under section 80U or disease or ailment under section 80DDB, 10 per cent shall be read as 15 per cent).