No tax benefit on ULIPs, high PF contribution

The Budget 2021-22 has tightened provisions for high-income earners taking advantage of popular tax-saving investment options.

Firstly, interest earned on PF contributions over ₹2.5 lakh is taxable. This provision shall be applicable on contributions made on or after April 1, 2021. This is a continuation of the government’s move last year to set an aggregate limit of ₹7.5 lakh for employer contributions to the PF, National Pension System (NPS) and superannuation fund, any contribution beyond whichwas made taxable.

PF contributions enjoyed tax deduction under Section 80C up to a maximum of ₹1.5 lakh per year. Interest accrued is entirely tax-free and so are withdrawals. With the new proposal, interest on contribution of over ₹2.5 lakh to Employee Provident Fund (EPF) will be taxed.

Apart from high income earners whose PF contributions could exceed ₹2.5 lakh, this provision could impact those who contribute to voluntary provident fund (VPF), too.

This is a popular low-risk savings route since it provides fixed returns similar to the EPF. Returns on other low-risk fixed income instruments such as post office small savings schemes and bank deposits are market-linked.

However, the segregation of interest on the existing corpus collected over the years and the one earned on the contribution over ₹2.5 lakh a year for tax purposes may be easier said than done. Clarity is also needed on whether the tax will be applicable for the interest earned only on the incremental contribution above ₹2.5 lakh or on the entire contribution.

By taxing the annual contribution to provident funds beyond ₹2.5 lakh, high-income earners using that route will be nudged towards moving to other avenues such as NPS.

ULIP lose tax edge

ULIP (Unit Linked Insurance Plan) maturity proceeds are also not tax-free any more. The government has proposed to allow tax exemption for maturity proceeds of the ULIP with annual premium up to ₹2.5 lakh alone.The cap of ₹2.5 lakh on the annual premium of ULIP shall be applicable only for the policies taken on or after February 1, 2021. The non-exempt ULIPs shall be provided same capital gains taxation regime as available to the mutual fund.

However, the amount received on death shall remain exempt without any limit on the annual premium.

This proposal virtually ends the tax advantage that ULIPs, an investment plan with a dash of life insurance, enjoyed over mutual funds. Taking away this tax edge evens the playing ground because ULIPs were being used by many HNIs to earn tax-exempted returns.

Long-Term Capital Gains (LTCG) arising out of the sale of units of equity-oriented mutual fund schemes are taxed at 10 per cent if the LTCG exceed ₹1 lakh in a financial year (gains up to January 31, 2018 being grandfathered). However, the proceeds from ULIPs of insurance companies (including early surrender / partial withdrawals) are exempted from income tax under Section 10(10d) of the Income Tax Act.

So, even though ULIPs invest in equity stocks, just like mutual funds, they had an advantage, which is now being partially taken away. ULIPs, however, still enjoy the advantage of tax deduction under Section 80C of the Income Tax Act on the premium paid, something which is enjoyed only by ELSS (tax-saving funds).

Other tightening measures

Even after the expiry of the due date for filing returns, taxpayers were allowed to file belated returns with the payment of interest and penalty. Taxpayers could also revise their return filed in a particular year in case of any errors. The deadline for filing revised returns was at the end of the assessment year or before the completion of the assessment (by IT Officer), whichever is earlier. The Budget has proposed to advance the deadline by three months. Thus the revised return can now be filed three months before the end of the relevant assessment year or before the completion of the assessment, whichever is earlier.

The Budget also proposed a higher rate of tax deduction at source (TDS), for those who did not file their Income Tax Returns in any of the two previous years. For such taxpayers, their current year’s incomes would be subject to a TDS rate which is — 5 per cent or twice the rate of TDS normally applicable for the said income, whichever is higher. For instance, if your rental income in any year exceeded ₹2.4 lakh, the tenant was required to deduct TDS at 10 per cent on the rent. Now, if you haven’t filed your ITR in both the previous years, the rate of TDS on your rental income shall now be 20 per cent.

The Budget has tightened rules for deposit of the contribution of employees towards various welfare funds by employers. Any delay on this count usually results in permanent loss of interest/income for the employees. In order to ensure timely deposit of employees’ contribution to these funds by the employers, it has proposed to reiterate that that the late deposit of employees’ contribution by the employer shall never be allowed as deduction to the employer.

(With inputs from Keerthi Sanagasetti)

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