Full GST exemption on life and health insurance policies will be a mixed blessing

Earlier discussions within the Group of Ministers (GoM) included varied proposals, wherein some were advocating for full GST exemption, while others suggested rate reductions on specific policies. After extensive deliberations, a consensus has now been reached to fully exempt health and life insurance premiums for individuals from GST. However, the final decision rests with the GST Council.

Reducing the tax rate from 18% to zero would be a game changer for the consumers as it is expected to reduce the cost of total premium by around 15%. This move is intended to make insurance more accessible, especially for middle‑ and- lower income groups, and potentially improve insurance penetration in India.

While the idea behind reducing the tax rate from 18% to zero is to make the insurance affordable, the actual benefits to consumers will depend on how insurers adjust their pricing and whether the cost savings are fully passed on.

Will tax exemption result in actual savings to insurers?

One of the important features of GST was to ensure seamless flow of credit. Till now, the insurers have been able to claim the input tax credit (ITC) of the GST paid on their inputs and input services such as commission agents, sales and marketing, IT etc. since the output supply was taxable at 18% GST rate. With the proposal of exempting life and health insurance policies, the said credits will no longer be available, unless any exemption is carved out for insurers.

While the exemption on life and health insurance is on the table, no rate cuts or exemptions have been proposed for corporate policies and other commercial insurances (such as motor insurance, marine insurance, fire insurance etc). With this mixed bag of taxability (zero and18%), insurers will face added issues of reversal of common credits, eventually driving up the costs for them.

The loss of ITC was the sole reason that the blanket exemption or reduction in tax rates to 5% without ITC was being opposed by insurance sector. On the other hand, reducing the rate to 5% with ITC was being objected to by government due to loss of revenue on ITC.

Now that GoM has reached the consensus to exempt the policies, if the said proposal is accepted, the insurers will lose out on ITC which will eventually squeeze the margins of insurers, unless any specific exemptions are carved out, similar to those applicable for zero rated supplies wherein ITC is available even if the supplies are exempt.

Thus, it is essential that that the final decision by GST Council to reduce the tax rate or to exempt it is taken considering the above challenges to insurers. If the exemption is approved, allowing ITC relief alongside it would help achieve the actual objective.

Impact on corporate insurance policies

It is a general practice for companies to avail insurance on behalf of their employees. Since no relaxation is proposed on corporate insurance, companies will have to continue to pay 18% GST, with no ITC in view of specific restriction under the GST law.

If the ITC is not allowed and the tax rates are also not reduced, the companies may find themselves in challenging position than individual policyholders. This might discourage companies from purchasing group insurance policies, prompting them to encourage employees to secure individual coverage instead. Therefore, it is crucial that, if rate reductions are not implemented, the GST law is amended to allow ITC on such insurance premiums to encourage broader participation.

Impact on premiums already paid on long-term contracts

Since the exemption will apply prospectively, it is certain that it will cover all new policies and renewed policies issued post the exemption notification. However, there are certain cases which merit attention. For instance, in cases wherein insurers collect a one-time premium for the entire year, it remains to be seen whether they will be asked to pass on the benefit of proportionate period. Similarly, insurers often collect advances which are subsequently adjusted against premiums. Since GST at 18% would have already been collected, the question arises whether insurers must pass on the benefits of the instalments adjusted post exemption. If the insurance industry is expected to do so, it needs to be clarified as to whether credit notes can be issued or if some other mechanism will be prescribed.

Takeaways

While the final decision of GST council is awaited, rate rationalization for insurance sector is a consumer-friendly move. The consumers may gain leverage for better pricing across the industry; however, this advantage comes with its own set of challenges.

While the anticipated gains were expected to be around 15%, realistically speaking, the benefits may not turn out to 15% and may be reduced to around 5-7% or upto 10% depending on how insurers adjust their pricing amidst the ITC cost.

Since Telangana Deputy Chief Minister and Finance Minister Mallu Bhatti Vikramarka have agreed that some mechanism has to be devised to ensure that the GST exemption goes to policyholders, one can only hope that proposed mechanism, if introduced, will take care of both, insurers and consumers.

Ultimately, the true benefits of the proposed GST exemption will materialize only when the interests of both insurers and consumers are carefully balanced, ensuring affordability without compromising the financial viability of the insurance sector.

(Shivam Mehta is Executive Partner and Tanya Garg Associate Partner at Lakshmikumaran & Sridharan.)

Views are personal and do not represent the stand of this publication.