7 Things to Know About the Tax Benefits of ULIPs

What is a ULIP?

A Unit Linked Insurance Plan (ULIP) is a unique financial product that combines life insurance protection with investment opportunities. A portion of the premium is used to provide life cover, while the rest is invested in market-linked instruments like equity and debt funds, allowing for potential wealth creation.

Tax Benefits of ULIPs

1. Taxation on Premiums Paid

   ULIP tax exemption of up to ₹1.5 lakh:

   Under Section 80C of the Income Tax Act, 1961, you can claim a tax deduction up to ₹1.5 lakh per year on premiums paid towards ULIPs. This deduction applies only under the old tax regime and is subject to the combined limit of ₹1.5 lakh, which includes other eligible investments like PPF, ELSS, and life insurance premiums.

2. Limitations on Deductions (Based on Date of Policy Purchase)

   ULIPs bought after April 1, 2012:

   • You can claim the full deduction only if your annual premium is less than 10% of the sum assured.

   • If the premium exceeds 10%, the deduction is restricted to 10% of the sum assured.

   ULIPs bought before April 1, 2012:

   • Deduction allowed only if the premium is less than 20% of the sum assured.

   • If it exceeds 20%, you can claim a deduction only up to 20% of the sum assured. 

3. Tax Exemption on Maturity Proceeds

   Maturity taxation refers to the tax treatment of the amount you receive when the ULIP matures. Under certain conditions, the maturity amount can be tax-exempt under Section 10(10D) of the Income Tax Act under the old tax regime.

   Taxation Rules for Maturity Benefits of ULIPs

   ULIPs Issued on or Before February 1, 2021:

   If you purchased a ULIP (or multiple ULIPs) on or before February 1, 2021, then the maturity amount is fully tax-exempt, regardless of how much premium you pay in any policy year. This exemption is available under Section 10(10D) of the Income Tax Act, provided other standard conditions are met.

   ULIPs Issued After February 1, 2021 – Premium Up to ₹2.5 Lakh:

   If your ULIP was issued after February 1, 2021, and you do not pay more than ₹2.5 lakh in premium in any financial year, then the maturity proceeds are tax-free, as per the rules under Section 10(10D).

   ULIPs Issued After February 1, 2021 – Premium Above ₹2.5 Lakh:

   If your ULIP was issued after February 1, 2021, and the annual premium exceeds ₹2.5 lakh in even a single policy year, then the maturity benefit becomes taxable. The gains will be taxed as capital gains, in accordance with the fourth provision to Section 10(10D) of the Income Tax Act.

   If You Hold Multiple ULIPs Issued After February 1, 2021

   When total premiums stay within ₹2.5 lakh/year:

   If the combined annual premium of all such ULIPs remains below ₹2.5 lakh in every year of their tenure, then the maturity amounts from all these policies are tax-free, subject to general conditions under Section 10(10D).

   When total premiums exceed ₹2.5 lakh/year:

   If the total premium for all such ULIPs crosses ₹2.5 lakh in any year, only those specific policies whose combined premiums are within the ₹2.5 lakh limit will continue to enjoy tax-free maturity. Maturity proceeds from other policies exceeding this limit will be taxable.

   

4. Tax-Free Death Benefit for Nominees

   • Any life insurance policy, including ULIPs, offers tax-free treatment of the death benefit. In the unfortunate event of the policyholder's demise during the policy term, the entire sum assured (life cover) along with any accrued bonuses received by the nominee is completely exempt from income tax under Section 10(10D) of the Income Tax Act. 

   • The exemption ensures that your family receives the full financial support without any tax deductions, providing them with much-needed security during a difficult period, regardless of the premium paid or the policy's purchase date.

5. Tax Benefits on Top-Up Premiums

   ULIPs allow you to make top-up investments, which can also qualify for tax benefits:

   Tax deduction on top-ups under Section 80C, subject to the ₹1.5 lakh annual limit: 

   You can claim a tax deduction for the amount paid as top-up premiums under Section 80C of the Income Tax Act, provided it falls within the overall annual limit of ₹1.5 lakh for all eligible investments. This deduction is primarily applicable if you choose the old tax regime for tax filing.

   The maturity proceeds of top-up premiums are tax-free under Section 10(10D) if:

   The total top-up premium remains within the ₹2.5 lakh limit (for post-Feb 2021 policies):

   For ULIPs bought on or after February 1, 2021, the sum of your regular annual premiums and all top-up premiums paid in any given year must not exceed ₹2.5 lakh to qualify for tax-free maturity.

   Other conditions regarding sum assured and premium ratios are met: 

   Additionally, for policies bought before February 1, 2021, the tax-free status of maturity benefits (including those from top-ups) is also subject to the original conditions where the premium must be less than 10% (or 20% for older policies) of the sum assured.

6. Tax-Free Partial Withdrawals After Lock-In Period

   Partial withdrawals from ULIPs are tax-free if:

   Made after the 5-year lock-in period:

   You can only initiate partial withdrawals from your ULIP policy once the mandatory five-year lock-in period has been successfully completed. 

   The amount withdrawn is within 20% of the fund value: 

   For partial withdrawals to typically remain tax-free, the amount you withdraw should generally not exceed 20% of your ULIP's fund value at the time of withdrawal, as per common policy terms and interpretations. 

   If the policy is surrendered before the 5-year lock-in, all tax benefits claimed earlier will be reversed. 

Tabular Illustration to Understand ULIP Taxation

7 Long-Term Tax Efficiency and Wealth Creation Benefits

• ULIPs offer a long-term horizon for tax savings and market-linked growth

• The 5-year lock-in period helps instill financial discipline. 

• The ability to switch between funds and redirect premiums adds flexibility while staying tax-efficient. 

• ULIPs remain an effective tax-saving tool under the old tax regime, especially for individuals seeking the dual benefits of investment and life insurance. 

Conclusion

ULIPs provide an excellent blend of life cover, investment, and tax-saving opportunities. From deductions on premiums to tax-free maturity and death benefits, ULIPs can play a powerful role in long-term financial planning. For individuals exploring tax-saving options in India, ULIPs offer a strategic solution under the old tax regime, provided the applicable limits and conditions are well understood.. It is important to consider premium thresholds, policy issuance dates, and tax regulations to maximize benefits. When in doubt, consulting a financial advisor can help you choose the most suitable regime and policy structure for your financial goals.