Budget 2016: Un-tax my insurance, requests the average insurance buyer

Saji GeorgePolicyLitmus“Unbreak my heart”, crooned Toni Braxton in a clever play on words. Unfortunately there is nothing too clever about the tax regime on insurance in India. World over, insurance and pension funds are the long term drivers of the economy, bringing in capital for the core sectors of the economy. Insurance and pension funds are long term in nature, and these industries promote thrift and sound financial ideals in a population. Consider the following two facts:1. Today India needs massive and consistent funds in the infrastructure space to promote growth and reduce poverty. While banks play an important role in extending credit lines, it is insurance and pension funds that fund government initiatives and invest in long tenure instruments, providing a powerful source for government outlays.2. India has no social safety net. Most of the population is left to the vagaries of employment and the weather. Rising health costs have bankrupted homes and loss of loved ones has destroyed families. The insurance and pension industries attempt to fill this gap, a gap appreciated by the prime minister himself in the recently rolled out Bima Yojanas.It therefore follows that the government must be doing everything in its capacity to encourage this inflow into insurance and pension funds. Sadly, this does not appear to be true. While on the one hand the government encourages investment in the insurance sector, on the other hand it taxes the products so heavily as to make the business difficult to do. Let us consider the issues one by one.Service Tax: By its very definition this tax must be applied if a service is offered. To apply service tax on annuity or pension premiums and protection premiums (term life, health and so on), is a travesty of the tax. The cover provided is a product: why should that be taxed, pushing up the cost of ownership by almost 15 percentage points? One can understand tax being applied, if a service is sought on the policy, like an address change or the like and the company charges a fee for effecting the change. Pushing up the cost of ownership of a protection product, especially in a country that has virtually no state-sponsored safety net is illogical. By the same logic, one should be paying service tax on the entire amount invested in a mutual fund rather than (as is currently done) on the management and advisory fees! Taxing Policy Returns on Maturity: For long, insurance policy maturity returns were not taxed. A few years back, these were bought into the tax net for short duration policies. The ostensible reason was to prevent money laundering – although it defeats me as to why a smart person would launder money through an insurance policy. Insurance policy returns are lesser that what a savings bank account will offer you, primarily because most (up to 80%) of the premiums are invested in government securities offering guaranteed but fairly low returns. On the one hand the returns to the policyholder are low and he has already indirectly contributed to the economy through his premiums being invested. To add insult to injury, he is taxed on the meagre outcomes as well! Should we not at least consider bringing it on par with long term mutual funds (which have no taxes) or bonds, where after three years there are no taxes? Income Tax on Annuity and Pension Payouts: To me this represents the abdication of reason. Differential tax treatment on pension payouts is a critical need both to encourage long term savings and to provide an inflation-protected means of living to senior citizens. If revenue is the sole consideration, exemptions up to specified amounts must be provided. We can introduce an age cut-off, say 60 years by which most Indians retire, before which proceeds will be taxable. After the age of 60, proceeds should be tax exempt. The benefits to the government in terms of long term funds collected and to the citizenry in terms of alleviation of post retirement penury are immense. Some wisdom in this aspect will actually increase investments providing long term investible funds for the nation and also provide a much needed fillip to the insurance industry that is currently suffering from a prolonged bout of distress in terms of business performance. Rationality in taxation can encourage behaviour changes and even lead to an increase in savings rates. Lack of vision and the inability to go beyond immediate revenue considerations is almost always a dangerous combination. A combination of service tax and income tax is a double whammy that will have long term repercussions on an industry that is the life blood of long term finance needs.