ULIP Tax Rules After the Latest Budget

For decades, ULIPs enjoyed a near-total tax advantage: premiums qualified for 80C deduction, fund switches inside the ULIP attracted no capital gains tax, and maturity proceeds were entirely tax-free under Section 10(10D). That advantage has been materially eroded by a series of budget amendments since 2021. Getting these rules right is not optional — a mistaken assumption could result in a significant and unexpected tax bill at maturity.

The February 2021 Change: The ₹2.5 Lakh Cap

The Union Budget 2021 introduced a critical condition for ULIPs issued on or after 1 February 2021: the maturity or surrender proceeds are tax-free under Section 10(10D) only if the annual premium does not exceed ₹2.5 lakh. If the annual premium exceeds this threshold, the policy''s maturity proceeds are taxed as capital gains — equity fund gains at 12.5% (long-term, if held more than 12 months) or at 20% with indexation for debt-oriented funds, depending on the budget year. ULIPs issued before 1 February 2021 are grandfathered under the old rules, regardless of premium size.

Multiple Policies and Aggregate Premium Test

The ₹2.5 lakh test applies to the aggregate annual premium across all ULIPs issued after 1 February 2021 held by the same individual. If you hold two post-February-2021 ULIPs with annual premiums of ₹1.5 lakh each, your aggregate is ₹3 lakh — both policies lose the Section 10(10D) exemption. This aggregate test catches investors who try to stay under the threshold by splitting premiums across multiple policies.

Death Benefit: Still Fully Exempt

One important relief: death benefits — proceeds paid to nominees on the policyholder''s death — remain fully exempt under Section 10(10D) regardless of premium amount. The tax changes apply only to maturity and surrender proceeds during the policyholder''s lifetime. This preserves the core insurance purpose of ULIPs without tax penalty.

Section 80C Deduction: Unchanged

The Section 80C deduction of up to ₹1.5 lakh per year on ULIP premiums remains available, subject to the usual conditions (premium not exceeding 10% of sum assured for policies issued after April 2012). The deduction benefit has not been modified by the 2021 or subsequent budgets. However, for policies that lose the Section 10(10D) exemption, the effective tax benefit is reduced because the outgo at maturity is no longer tax-free.

Fund Switching: Still No Capital Gains

Switching between funds within a ULIP still does not attract capital gains tax, regardless of the premium level. This remains one of the genuine tax efficiencies of the ULIP structure compared to mutual funds, where switching from an equity fund to a debt fund triggers a taxable redemption.

Implications for Existing High-Premium Policyholders

If you already hold a post-February-2021 ULIP with premiums above ₹2.5 lakh, your maturity proceeds will be treated as capital gains. The tax at maturity depends on the asset allocation — equity-oriented funds (more than 65% in equities) attract equity capital gains rates; others attract debt rates. Planning your asset allocation as you approach maturity can therefore have tax implications — a reason to consult a qualified tax advisor as you near the policy''s end date.

Conclusion

The tax advantage of ULIPs has narrowed but not disappeared. For investors with annual premiums below ₹2.5 lakh, the Section 10(10D) exemption and the tax-free fund-switching benefit remain valuable. For high-premium investors, the calculus has changed and alternatives like NPS or direct equity mutual funds may be more efficient. Before buying a new ULIP or reviewing an existing one, model the post-tax returns honestly and speak with an advisor on TruePolicy who is current on the latest budget rules.