When adding a certain element to your financial portfolio, it is vital to look at the various benefits it offers. Some instruments may offer high gains but may prove to be unlucrative due to the high taxation they incur. Some may have lower returns but may bring in substantial tax benefits. A life insurance policy offers not just an insurance cover for life but also the opportunity to avail several tax deductions and exemptions, making it an enviable addition to any portfolio. Life insurance tax benefits are many and can be broadly divided into Section 80C deductions and Section 10 (10D) deductions. Let’s take a look.
What is life insurance and how do tax benefits work on it?
Life insurance policies are a way of securing the financial future of your family and safeguarding them against life’s uncertainties. If an unfortunate and untimely event leads to your demise, your family may be bereft of financial support. Buying life insurance and paying regular premiums can ensure that your loved ones have a financial backup in such a scenario. If you want to understand how much premium you will have to pay for a particular policy, then you can use the life insurance premium calculator.
Tax benefits on life insurance can work in two ways – deductions and exemptions. While the former means a deduction in your tax liability, the latter means that a particular income amount is not taxed.
Tax deductions and exemptions on life insurance
- Deduction on life cover premium
When doing your taxes, you can deduct up to Rs 1.5 lakhs from your overall tax liability if you are paying the premiums of your life insurance policy. According to Section 80C of the Income Tax Act, 1961, a policyholder can claim tax deductions of up to Rs 1.5 lakhs against the premium of their life plan.
- Deduction on critical illness rider
When you buy life insurance, you can also opt for several riders to increase your financial protection. One such rider is the critical illness rider that provides a lump sum pay-out if the insured person suffers a diagnosis of the covered illness. Another benefit of this rider is that it offers the policyholder tax benefits. According to Section 80D of the ITA, the premium paid towards the critical illness insurance add-on is eligible for a tax deduction as well.
A life insurance premium calculator can also help you understand how much more premium you will be paying when you opt for a rider.
- Tax exemption on pay-outs
The amount that your nominee/s receive/s from the life insurance policy on your passing away is exempted from taxation under Section 10 (10D). Furthermore, some life plans may have a maturity aspect to them wherein the policyholder receives pay-outs if they survive the maturity of the policy. This maturity benefit pay-out, too, is exempted from taxation as per Section 10 (10D). Not only that, if you choose to surrender the policy, the surrender value pay-out, too, is tax-exempted.
Important points to remember about life insurance tax benefits
- The benefits mentioned above are only applicable if the policy is bought from an insurer that is registered with the IRDAI.
- For policies bought before 1st April 2012, the annual premium of the policy should not exceed 20% of the sum assured to be eligible for Section 80C tax deductions. Policies bought after the given date shall not be eligible for the deduction if the premium goes over 10% of the sum assured amount.
- Section 10 (10D) exemptions are also only eligible if:
- The premium for a life insurance policy bought before 1st April 2012 does not exceed 20% of the sum assured
- The premium for a life insurance policy bought after 1st April 2012 does not exceed 10% of the sum assured
- In the case of deductions, the term ‘sum assured’ refers only to the minimum life cover and does not include bonuses or anything of that kind. In the case of tax exemptions, though, the maturity amount, bonuses, and so on, are also considered.
- Certain benefits may be reversed if the policyholder nullifies the policy only a few years after buying it and accruing these tax benefits.
- These exemptions are valid only for people who have opted for the old tax regime. These tax benefits are not applicable for individuals who are paying tax under the new tax regime.
There are many reasons to buy life insurance, and the list of tax benefits is just one of them. Remember, tax benefits are subject to amendment in tax laws and are dependent on several terms and conditions.