Do beneficiaries need to pay taxes on life insurance payouts? Find out here.

  • Income Tax

There’s not much you can do about the uncertainties in life. Except perhaps purchase a life insurance plan.

And how does that help? Well, let’s see.

When the primary or the sole earning member of a family passes away, the dependents may be financially unsupported. Here’s where life insurance can help. It reduces the financial impact of such unexpected incidents, because it provides a financial cushion in the form of death benefit payouts.

That’s not all. Many life insurance plans - particularly endowment plans and ULIPs - also offer maturity benefits. These are paid out if policyholders survive the policy term. The amount can then be used by policyholders to meet their life goals.

So, payouts like death benefits, maturity benefits and even bonuses, if any, can be extremely helpful financially.

But do life insurance payouts come with the added burden of tax?

Generally, no. Life insurance payouts that insurance service providers make to the policyholders or beneficiaries are not taxable. This is because of a provision found in section 10(10D)1 of the Income Tax Act, 1961. According to this section, here’s how death benefits and maturity benefits are exempt.

1. Death benefits

Under section 10(10D) of the Income Tax Act, 1961, the death benefits paid out to the beneficiary upon the policyholder’s demise are completely tax-free.

So, for example, say the primary breadwinner of a family passes away. And say they had an active life insurance plan. So, the policyholder’s spouse - who is the beneficiary - receives Rs. 50 lakhs as the sum assured upon death of the policyholder. This amount will not be taxed in the spouse’s hands, because it is tax-free as per section 10(10D) of the Income Tax Act, 1961.

2. Maturity benefits

Term insurance, being pure life insurance, offers death benefits alone. But many other types of life insurance plans give you maturity payouts, which are paid to you at the end of the policy’s tenure. These payouts could include additional bonuses or terminal bonuses too.

According to section 10(10D) of the Income Tax Act, 1961, maturity payouts are exempt from tax, subject to the following conditions. The conditions of section 10(10D) has to be satisfied throughout the pay term.

a. For life insurance policies issued on or after 01.04.2003 but before 31.03.2012, the annual premium shouldn’t exceed 20% of the sum assured amount.

b. For life insurance policies issued on or after 01.04.2012, the annual premium shouldn’t exceed 10% of the sum assured amount.

So, are there any situations where any life insurance payout is taxable?

Yes, there are a couple of instances where life insurance payout becomes taxable. Here are the details.

Scenario 1: If there is interest on accumulated death benefits

Sometimes, policyholders may specifically mention that the death benefits should not be paid out immediately after their death. In such cases, the insurer holds on to the death benefits for the specified period. During this time, interest accumulates on the sum assured. And when the benefits are eventually paid out to the beneficiaries, this interest portion alone is taxable.

Scenario 2: If the payouts become a part of the policyholder’s estate

In some cases, the beneficiary may pass away before the policyholder. And eventually, upon the policyholder’s demise, the death benefits will become a part of the deceased’s estate. This is because there is no nominee to whom the insurer can pay the death benefits. When this happens, the proceeds are taxed just like how the rest of the estate and inheritance are taxed.

In India, this generally doesn’t happen often, because most insurers ask policyholders to specify a primary beneficiary and a contingent beneficiary.

So, this sums up the answer to whether or not life insurance payouts are taxable. The norm is that these payouts are tax-free, and this is one of the many advantages that life insurance offers.

Read next: WHY LIFE INSURANCE IS MORE TAX-EFFICIENT THAN OTHER INVESTMENT OPTIONS

So, now you know that life insurance payouts are generally tax-free2. But does life insurance offer any other tax benefits? It sure does. In fact, we have a blog on why life insurance is extremely tax-efficient.

Read it here

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1Subject to the fulfilment of conditions therein.
2Tax benefits are subject to changes in tax laws. Kindly consult your financial advisor for more details.
ABSLI Guaranteed Milestone Plan is a non-participating traditional insurance plan. UIN: 109N106V08

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