Centre clarifies tax regulations for ULIPs; Premium cap and capital gains tax on non-exempt policies

A key aspect of the Budget is its strong emphasis on digital transformation, which aligns with the ongoing evolution of the insurance sector.

In an attempt to restrict tax exemptions to smaller, more genuine life insurance cases, the Budget 2025 has clarified that gains from Unit-Linked Insurance Plans (ULIPs) with premiums exceeding Rs 2.5 lakh per year will be treated as capital gains.

Prior to the 2025 Union Budget, there was ambiguity surrounding the taxation of Unit Linked Insurance Plans (ULIPs) that did not comply with Section 10(10D) conditions, particularly those with annual premiums exceeding Rs 2.5 lakh.

Section 10(10D) of the Income Tax Act, 1961, provides a tax exemption on the maturity proceeds of life insurance policies, including any bonuses, subject to certain conditions. If the annual premium does not exceed 10 percent of the sum assured (for policies issued after April 1, 2012), the maturity amount remains tax-free.

Under the previous rules, if the annual premium for ULIPs was up to Rs 2.5 lakh, the maturity amount was tax-free after a five-year lock-in period.

However, for policies with higher premiums, the taxation was ambiguous. The debate revolved around whether to categorise the proceeds as 'capital gains' or 'income from other sources'.

The 2025 Budget has clarified and tightened these tax regulations. Now, ULIPs that do not meet the exemption criteria are treated as capital assets for taxation.

If a policy is held for less than a year before surrender or maturity, any profit is taxed according to the individual's applicable income tax slab rate. For policies held over a year, gains are taxed at a concessional rate of 12.5 percent, similar to the taxation of equity mutual funds.