Latest Budget 2025 Updates on ULIP Taxation
The Union Budget 2025 has introduced key changes to the taxation of ULIP plans, impacting investors and policyholders. Below is a breakdown of the latest updates regarding taxation on ULIP and how they compare to the previous tax regime.
Previous Tax Rule (Before Budget 2025)
- ULIPs were treated as capital assets only if the annual premium exceeded ₹2.5 lakh.
- Policies with premiums below this threshold enjoyed tax-free maturity proceeds under Section 10(10D).
Revised Tax Rule (Budget 2025 Update)
- Now, ULIPs with premiums exceeding 10% of the sum assured will also be classified as capital assets, making their gains taxable if redeemed before the 5-year lock-in period.
- However, if your annual premium remains under ₹2.5 lakh, the maturity or withdrawal amount continues to be tax-free, provided the policy meets other exemption criteria.
Important Amendments Affecting ULIP Taxability
In 2021, the budget amended Section 10(10D) of the Income Tax Act, altering the tax treatment of ULIP maturity proceeds. These changes came into effect on February 1, 2021, impacting policies issued on or after this date.
When Do ULIP Maturity Proceeds Become Taxable?
As per the amendment, the maturity amount (including bonuses) will no longer be tax-exempt if:
- Single Policy Condition: The annual premium for any year during the policy term exceeds ₹2.5 lakh, or
- Multiple Policies Condition: The combined annual premium across all ULIPs exceeds ₹2.5 lakh in a financial year.
In such cases, the maturity proceeds will be subject to taxation as per applicable income tax deductions list.
Furthermore, one of the benefits of ULIP that policies issued before February 1, 2021, continue to enjoy full ULIP tax exemption on maturity, regardless of the premium amount. This amendment aimed to curb the use of ULIPs as a tax-free investment avenue for high-value premiums, aligning them closer to mutual fund taxation norms.
What do you mean by maturity taxation in a ULIP?
Maturity taxation in a unit linked insurance plan (ULIP) refers to the application of income tax laws to the proceeds received by the policyholder when the policy reaches its pre-defined end date (maturity) during the policyholder’s lifetime.
Specifically, taxability of ULIP on maturity addresses if the fund value paid out by the insurer upon policy maturity is:
- Tax-exempt: Meaning the policyholder receives the full amount without any tax liability.
- Taxable: Meaning a portion of the proceeds, typically the gains component, is subject to income tax, usually categorized as capital gains.
The tax on ULIP maturity proceeds is determined by several key factors established by the Income Tax Act, 1961:
- Policy Issuance Date: Rules differ for policies issued before and on/after February 1, 2021.
- Annual Premium Amount: A crucial threshold (currently ₹2.5 lakh for policies issued on/after Feb 1, 2021) dictates taxability.
- Premium to Sum Assured Ratio: The annual premium must generally not exceed 10% of the life cover (sum assured) for the maturity proceeds to qualify for exemption under Section 10(10D).
Understanding maturity taxation is essential for assessing the post-tax returns of a ULIP. It is important to differentiate maturity proceeds from death benefits, as death benefits received under a ULIP are generally tax-exempt, irrespective of the premium amount.
Examples Illustrating ULIP Taxation
Understanding how ULIP plan taxation rules apply in practice can be best achieved through illustrative examples. If you are wondering is ULIP tax free, below are scenarios showcasing the tax treatment of ULIP proceeds based on policy issuance dates and premium amounts.
Example 1: ULIP Purchased Before April 2012
Scenario: Mr. Sharma purchased a ULIP in March 2011.
- Sum Assured: ₹10,00,000
- Annual Premium: ₹1,50,000
- Policy Term: 15 years
- Maturity Value Received in 2026: ₹30,00,000
Tax Analysis For ULIPs issued before April 1, 2012, the primary condition for tax exemption on maturity proceeds under Section 10(10D) is that the annual premium should not exceed 20% of the sum assured.
- 20% of Sum Assured: 20% of ₹10,00,000 = ₹2,00,000.
- Mr. Sharma’s annual premium (₹1,50,000) is less than ₹2,00,000.
Conclusion
The maturity proceeds of ₹30,00,000 received by Mr. Sharma will be entirely tax-exempt under Section 10(10D). The Budget 2021 changes (₹2.5 lakh premium limit) do not apply to policies issued before February 1, 2021.
Example 2: ULIP Purchased After April 2012
Scenario: Ms. Gupta purchased a ULIP in June 2015.
- Sum Assured: ₹15,00,000
- Annual Premium: ₹1,20,000
- Policy Term: 10 years
- Maturity Value Received in 2025: ₹20,00,000
Tax Analysis For ULIPs issued on or after April 1, 2012, but before February 1, 2021, the annual premium must not exceed 10% of the sum assured for maturity proceeds to be tax-exempt under Section 10(10D).
- 10% of Sum Assured: 10% of ₹15,00,000 = ₹1,50,000.
- Ms. Gupta’s annual premium (₹1,20,000) is less than ₹1,50,000.
Conclusion
The maturity proceeds of ₹20,00,000 received by Ms. Gupta will be entirely tax-exempt under Section 10(10D). The Budget 2021 changes regarding the ₹2.5 lakh premium threshold are not applicable here.
Example 3: ULIP Issued After February 2021
Let us consider two scenarios here:
Scenario A: Premium within limits
- Policyholder: Mr. Verma
- Policy Issued: March 2021
- Annual Premium: ₹2,00,000
- Sum Assured: ₹25,00,000 (Annual premium is 8% of Sum Assured, so 10%)
- Maturity Value: ₹35,00,000
Tax Analysis (Scenario A):
- 10% Rule: The annual premium (₹2,00,000) is less than 10% of the sum assured (₹2,50,000). Condition met.
- ₹2.5 Lakh Rule: The aggregate annual premium for ULIPs issued on/after Feb 1, 2021 (here, only one policy) is ₹2,00,000, which is not more than ₹2,50,000. Condition met.
Conclusion (Scenario A): The maturity proceeds of ₹35,00,000 will be tax-exempt under Section 10(10D).
Scenario B: Premium exceeds ₹2.5 lakh
- Policyholder: Ms. Iyer
- Policy Issued: May 2021
- Annual Premium: ₹3,00,000
- Sum Assured: ₹30,00,000 (Annual premium is 10% of Sum Assured. Condition met)
- Total Premiums Paid over term (say 10 years): ₹30,00,000
- Maturity Value: ₹45,00,000
Tax Analysis (Scenario B):
- 10% Rule: The annual premium (₹3,00,000) is equal to 10% of the sum assured (₹3,00,000). Condition met.
- ₹2.5 Lakh Rule: Annual premium (₹3,00,000) exceeds ₹2,50,000.
Conclusion (Scenario B): The maturity proceeds are taxable as per laws in income tax laws.
Example 4: Partial Withdrawal Tax Calculation
Scenario: Mr. Kumar purchased a ULIP in April 2021.
- Annual Premium: ₹4,00,000 (exceeds ₹2.5 lakh)
- Sum Assured: ₹40,00,000 (premium is 10% of SA)
- This ULIP’s maturity proceeds will be taxable as per rules for high-premium ULIPs.
- After 6 years (post lock-in), Mr. Kumar makes a partial withdrawal of ₹5,00,000.
- Cost of units withdrawn (using FIFO or as specified): Let us assume ₹3,50,000 represents the premium attributable to the units being withdrawn.
Tax Analysis Since the annual premium exceeds ₹2.5 lakh, Section 10(10D) exemption is not available for any sum received under this policy (except death benefit). Therefore, partial withdrawals will also be assessed for tax on the gains portion.
- Gain on Partial Withdrawal: ₹5,00,000 (Withdrawal Amount) - ₹3,50,000 (Cost/Premium Attributable) = ₹1,50,000.
- This gain of ₹1,50,000 will be treated as capital gains and taxed as per the income tax laws.
Taxation on Partial Withdrawals from ULIPs
The tax treatment of partial withdrawals from ULIPs, which is permissible after the 5-year lock-in, directly depends on the overall taxability of the policy’s maturity proceeds under Section 10(10D). If your ULIP qualifies for tax-exempt maturity, i.e., it adheres to premium-to-sum-assured ratios and, for policies issued post-Jan 2021, has an annual premium of ₹2.5 lakh or less), then partial withdrawals are also generally tax-free.
Conversely, for high-premium ULIPs issued post-January 2021 where the annual premium exceeds ₹2.5 lakh, making the maturity proceeds taxable, any partial withdrawal will also be taxable. In this scenario, the gains portion of the withdrawal amount is subject to capital gains tax .
Frequently Asked Questions (FAQs)
1
Are ULIP premiums eligible for tax deduction?
Yes, premiums paid for ULIPs qualify for deduction under Section 80C of the Income Tax Act, up to the overall limit of ₹1.5 lakh. For policies issued after April 1, 2012, this benefit is restricted to annual premiums up to 10% of the actual sum assured.
2
Is the maturity amount from ULIPs tax-free?
It depends. Generally, yes, under Section 10(10D), if the annual premium is within 10% of the sum assured (20% for policies before April 2012). However, for ULIPs issued on or after February 1, 2021, if the aggregate annual premium exceeds ₹2.5 lakh, the ULIP maturity taxability becomes liable as capital gains.
3
What happens if I surrender my ULIP before 5 years?
If surrendered before the 5-year lock-in:
- Any Section 80C deductions claimed previously will be reversed and added to your taxable income in the year of surrender.
- The entire surrender value (paid out after the 5-year lock-in completes) becomes fully taxable.
4
Are partial withdrawals taxable?
If the ULIP’s maturity proceeds are tax-exempt, partial withdrawals after the 5-year lock-in are generally tax-free. For high-premium ULIPs, where maturity is taxable, partial withdrawals are also taxable on the gains component
5
How has Budget 2025 changed ULIP taxation?
As per Budget 2025 proposals, ULIP investors with annual premiums below ₹2.5 lakh will now be subject to a 12.5% capital gains tax on withdrawals made after one year. This tax applies under Section 112A, regardless of the fund’s equity or debt allocation.
