With life insurance you can serve the objective of providing for your family's protection and also save tax in the process, says Aalok Bhan, Director and Head -- Product Solutions Management, Max Life Insurance
The best time to start tax planning is always at the beginning of a financial year when salaried class get their salary increment and self-employed and businessmen have a clear idea of how much they earned during the previous year. Unfortunately, most of us land up investing in a hurry without proper planning or evaluating various tax saving products and features during the last quarter of the financial year (January-March period). So the time is now to review your tax incidence for the year and plan the investment in tax savings tool.
If you look at the tax saving financial products available in the market, life insurance is one of the most effective ones for it not only provides financial protection for your loved ones, it also goes a step ahead to offer a host of tax benefits. You can avail a tax benefit by way of deduction towards premium paid on life insurance policies up to Rs 150,000 under Section 80C of the Income Tax Act, 1961. This also includes premium paid by you for life insurance for your spouse or premium paid for your child's policy. Any yearly income on life insurance policy in the form of bonus and even the lump sum amount at the end of policy tenure are also tax free in accordance to section 10(10D) of income tax act.
You can purchase life insurance in the form of a term plan, traditional savings and protection plan, whole life plan, ULIP or as a pension plan. Of these, term plans are pure life cover but others are a mix of life cover and savings. However, for tax saving purposes, all are equally beneficial as the application of tax laws is same for all life insurance plans.
Retirement or pensions plans are slightly different from other life insurance plans in the way the investment and payout is structured. Any pension plan has two parts -- accumulation and payout or withdrawal. The policy works in a way that you pay premiums till the maturity date following which you are entitled to receive one-third as a lump sum payout and rest is paid out as regular pension throughout your life and that of your spouse depending on the pension option you have opted for. Tax benefits can be availed during the accumulation phase, i.e. for the premium paid each year. You can avail deduction under section 80CCC up to Rs 1.5 Lakh.
In the withdrawal phase, while the one-third lump sum payout is tax–free, the remaining amount paid as regular pension is defined as income for that year.
Tax benefits on riders
There are various riders or additional benefits that can be added to a life insurance plan, for a minimum cost. Such riders include critical illness, waiver of premium, personal accident and disability insurance. These riders offer tax benefits as well.
Any additional premium paid for rider add-ons are eligible for tax deduction in line with life and health covers. Under health cover, you can claim tax benefit under Section 80D up to Rs 25,000 for yourself, spouse and children. An additional premium up to Rs 30,000 for medical cover of parents can be claimed for tax deduction if the parents are senior citizens.
In addition, you can also claim tax rebate up to Rs 5,000 for preventive health check-ups. The rider that you have opted for determines the nature of tax benefit.
For example, for the critical illness rider, the relevant section for tax benefit will be 80D.
Meeting the Income Tax Act requirement
Before you buy insurance, you should also analyse if the cover being provided is in accordance to exemptions/deductions available under Income Tax Act. Under the Act, the life cover should be at least 10 times the annual premium to be eligible for tax deduction.
For example, if you pay Rs 30,000 as an annual premium, your policy should provide you with a life cover of at least Rs 3 Lakh (10 times of Rs 30000) to avail tax benefits.
Let's take an example to see how this works.
Say, Anil has a term plan for Rs 1 crore as a life cover for himself and has bought a traditional life cover of Rs 5 lakh for his wife Sunita last year with a critical illness rider. Additionally, he pays a premium for Rs 45,000 annually for a child plan he has invested in for his daughter Ria with maturity amount of Rs 60 lakh paid in stages to provide for her education and marriage.
Anil's annual premium for his term cover is Rs 8,000 and that of his wife is Rs 4,000 and Rs 2,000 for the rider.
Further, he also makes it a point to get a health check-up for himself each year. Unfortunately, due to his busy schedule, he has often ignored long-term tax planning and takes into account his tax liability only in February.
Further, he is unaware of benefits he can claim from riders or health check-ups. According to his salary, he needs to invest Rs 62,000 in tax saving instruments to save on taxes this year. Anil thinks he has already invested Rs 57,000 as premiums and needs to make an additional investment of Rs 5,000 (Rs 62,000-Rs 57,000) to avail maximum tax benefit. But does he really need to do that? Let's find out.
Anil and Sunita's policy (without taking the rider and its premium into account) clearly covers them more than 10 times of premium. Hence, these can be considered for tax deduction. Further, his child plan for Ria also meets the criteria making his tax saving investment as Rs 57,000 for the year (adding the premiums of Rs 8,000, Rs 4,000 and Rs 45,000) under section 80C. As he needs to show Rs 62,000 as his annual investment, Anil thinks he is falling short of Rs 5,000. However, if he makes himself aware of all tax benefits his plan provides, he will find that he has already met his tax liability with Rs 2,000 that he pays for the critical illness rider and up to Rs 5,000 that he spends on his preventive health check-up adding another Rs 7,000 eligible for tax deduction under section 80C and 80D, taking his total tax saving investment to Rs 63,000.
Thus you can see that considering all the tax saving features of his policy, Anil was able to get the required tax benefit, preventing additional financial liability on him for tax saving.
While the primary objective of life insurance is protection, it is a great tool for tax saving. What is important is to be aware of all the features and benefits from a tax-saving perspective to gain maximum advantage. With life insurance you can thus serve the objective of providing for your family's protection and also save tax in the process.
Illustration: Uttam Ghosh/Rediff.com