TAX NEWS - June 2010

New Ulips to invite tax on gains after new code

The second draft of the direct tax code proposes to treat all new unit-linked insurance policies (Ulips) on exempt-exempt-tax (EET) basis. However, the pure insurance and annuity products would be treated on exempt-exempt-exempt (EEE) basis.

In the first draft of DTC, it was proposed to bring all savings instruments under the exempt-exempt-tax. Under exempt-exempt-tax, while investment and appreciation are exempt from tax, the withdrawals would be taxed.

Industry experts feel that with ulips brought under exempt-exempt-tax regime, their charm is bound to be lost.

Dhirendra Kumar, chief executive officer of Value Research, said that tax exemption on Ulips was unnecessary and the move was expected. "Now, ulips would cease to be hot favourite investment options for investors," he added.

Divya Baweja, head, personal tax and family wealth, BMR Advisors, said if the present proposals are cleared by Parliament, they would hit the insurance industry as a majority of the products are unit-linked," he added. Life insurance companies collect up to 55-60 per cent of their premium from Ulips.

When contacted, Rajiv Jamkhedkar, chief executive of Aegon Religare Life Insurance, said he had not gone through the new draft and, hence, would be unable to comment on it.

Citing industry players' arguments, DTC revised draft said most countries followed exempt-exempt-tax for taxing savings as they have a social security system in place for all their citizens. exempt-exempt-tax savings accounts that are operated for individuals in these countries are over and above the mandatory social service payments received by them.

On the contrary, India does not have universal social security net in place and taxing the permitted savings would be harsh. "Therefore, as of now, it is proposed to provide the EEE method of taxation for government provident fund (GPF), public provident fund (PPF) and recognised provident funds (RPFs) and the pension scheme administered by the Pension Fund Regulatory and Development Authority (PFRDA). Approved pure life insurance products and annuity schemes will also be subject to EEE method of tax treatment," the draft stated.

The new draft on DTC proposes long-term capital gains tax on units of equity funds. At present, equity funds are exempt from long-term capital gains tax.

The draft proposes to compute long-term gains on equity and equity funds after allowing a deduction at a specified percentage of capital gains without any indexation. However, mutual fund experts don't see a very large impact of the new proposal. Dhirendra Kumar of Value Research said mutual fund investors anyway don't keep their money invested for very longer terms, and therefore, the impact may not be felt much.

Chief investment officer of a fund house on the condition of anonymity said there was no long-term capital gains tax on equity mutual funds because they used to pay securities transaction tax. "Now, if the long-term capital gains tax has been imposed on equity funds, there should be some changes on the STT front also," he added.

The second draft proposes to calibrate STT based on the revised taxation regime for capital gains and flow of funds to the capital market. The first draft has proposed to completely abolish STT.