labels: investment - general, insurance
The budget must benefit policyholdersnews
17 February 2006

Metlife MD Venkatesh Mysore suggests how the forthcoming union budget can make it more attractive for the policyholders to insurance themselves, considering only two per cent of Indians have any insurance.

The insurance sector in India has come a full circle from being an opencompetitive market till the '50s to being nationalised for decades, before reforms around the turn of the millennium brought the sector back to a liberalised market again. Now just five years old, the fledgling private insurance industry now faces the challenges of deregulation, consolidation and convergence of financial services.

Every industry has a wish list it presents to the finance minister while the annual budget is under consideration. The life insurance industry is no exception. Here is a list of recommendations that will benefit not just the insurers but policyholders as well.

Amendments to the Income Tax Act

Section 80-CCC
The present section 80ccc limits the deduction towards contribution to pension schemes of a life insurance company to Rs10,000. The deduction has also been clubbed to an overall limit of Rs1,00,000 for section 80c, section 80ccc and section 80ccd put together. The downside is that the deduction under section 80ccc can be 'nil' in case the entire amount of deduction of Rs.1,00,000 has already been exhausted by specified rebates available under Section 80c.

Section 80c and 80ccc enable a tax payer to deduct the life insurance premiums paid from his income, and thereby save tax on the such deductions. Section 10(10d) on the other hand exempts the benefits that are payable under life insurance policies.

Thanks to advancements in medical research, the longevity of Indians has increased and, consequently, the need to provide for old age has become far more important, since the country does not have a social-security safety net.

Experience shows that tax incentives continue to be the driver for investments in pension schemes. Given the rising cost of meeting day-to-day expenses today, the present limit of Rs10,000 is simply inadequate to encourage the average salaried earner to provide for the future through old age pension, since the cost of meeting children's educational expenses, medical bills, etc, already drain an average salary earners capacity to save Therefore this limit should be increased at the very least to Rs35,000 from Rs10,000 at present.

Further, Section 80ccc needs to be made independent of Section 80c, since pension addresses a special need - providing for a post-retirement income - and cannot be compared with other tax saving instruments, which are general in nature.

Tax treatment of unit-linked insurance plans
At present, investments under unit-linked life insurance plans (ULIP) are eligible for a tax deduction under Section 80c, again along with other eligible deductions. However, the benefits under a unit-linked plan are in the form of withdrawals and the death benefit is linked to the account value. The taxability of such benefits is governed by section 10(10d) of the Income Tax Act, 1961.

Given that ULIPs are designed to combine the features of both insurance and savings (like a mutual fund), the account value needs to be treated on par with mutual fund savings, from a tax point of view. Changes can be made to Section 10(10D) to provide for the tax treatment of ULIP policies, like for short term and long term capital gains.

As regards the dump in premium (irregular premium) under ULIP policies, there is no clarity about whether they are eligible on par with normal instalment premiums for a deduction under Section 80C. Since some of the premiums enter the account value that builds up the face amount, there are divided opinions on the subject. A clarification on this point would go a long way in removing the ambiguity.

The impact of fringe benefit tax on group superannuation policies
Considerable discussion has already taken place on the fringe benefit tax (FBT) levied on various expenditures by the taxpayer. One of the important anomalies is about the taxability of contributions made by the employer to a group superannuation fund, which has been brought into the FBT net.

This has made group superannuation fund schemes unattractive from the tax point of view, since it has become 'taxed-exempt-taxed' (TET) from its earlier status of 'exempt-exempt-taxed' (EET). While moving to the generalised EET regime, the central government should rectify this anomaly and exempt contributions to group superannuation funds from FBT.

The impact of EET on life insurance policies
Moving to the EET model would result in taxability of returns under life insurance policies. This may not be advisable at this stage, since this could adversely impact savings through life insurance. Even today, more than 60 per cent of insurance business comes between January and March, which shows that income tax is still the principal differentiator.

It is true that investment in life insurance should be driven by needs rather than tax considerations, but in a country where insurance penetration is still very low and awareness about insurance needs to be built, it is suggested that the returns from life insurance policies continue to be tax free.

Income tax on life insurance companies
Section 115b of the Income Tax Act, 1961, provides for taxability of life insurance business profits at 12.5 per cent. The Eradi Committee, which was constituted to examine the tax provisions governing life insurance companies, has already submitted its report on rationalising the income tax on life insurance companies. The government is still to take a view on this subject. It would help if this issue is conclusively settled before the next Budget.

Investments in life insurance policies are more driven by income-tax, even though the primary benefit of life insurance is the value proposition of protection to the family in the event of a bereavement. Since a vast majority of the Indian insurable population is uninsured and the benefit of insurance has not reached the masses, these tax benefits will ensure that the insurance cover is extended to a greater extent.

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The budget must benefit policyholders