It is a fact that tax incentives offered under the Income Tax Act, 1961 (the IT Act) have been instrumental in encouraging individuals to invest and save for their long-term retirement needs. One of the key incentives in this respect has been that many of the savings instruments have been under the Exempt Exempt Exempt (EEE) model. This means that if an individual taxpayer gets a tax deduction when he makes an investment, then the income that accrues in a particular savings instrument is tax-free, and so are the receipts from the tax-saving instrument.

Currently, under Sec 80C of the Act, an individual could claim deduction up to Rs 1 lakh. This is proposed to be revised to Rs 3 lakh under the Direct Tax Code (DTC). This has a big catch to it. Under DTC, all the savings instruments are proposed to be brought under the Exempt Exempt Tax (EET) model. Therefore, the receipts from all the savings instruments will be taxed at the time of withdrawal. Hence, it needs careful re-consideration in terms of an individual’s long -term retirement planning.

One of the main savings and investment avenues the DTC could impact are polices under unit-linked insurance plans (Ulips), money back and guaranteed return plans of insurance companies.

Under the I T Act, any sum received under a life insurance policy, including the sum allocated by way of bonus, is generally exempt from tax, if the annual premium doesn’t exceed 20 per cent of the capital sum assured.

Under the DTC, it is proposed that any sum received under an insurance policy—including the sum allocated by way of bonus—shall be taxable, unless two conditions are satisfied. First, the premium payable should not exceed five per cent of the capital sum assured and second, the sum is received only upon completion of the original period of the insurance contract, or upon death of the insured. If any of these conditions are not satisfied, the sum received would be held as taxable under the code.

The other types of saving schemes to be hit by the DTC are investments in tax-saving mutual funds, bank fixed deposits, Senior Citizens Savings Scheme (SCSS), post office monthly income scheme (POMIS), provident fund schemes, Public Provident Fund among other schemes.

Under DTC, even though the limit for claiming deduction has been enhanced to Rs 3 lakh however, the scope of the deduction has been considerably reduced. The scope of deduction is proposed to be limited to the schemes offered by the permitted savings intermediary. Now, schemes like five-year bank deposits and specified mutual funds are outside the ambit of the proposed deduction. Further, all the tax-saving instruments are now being brought under the EET model. The only saving grace is that the balance in these funds, up to 31 March 2011, is proposed to be tax-exempt, and the EET model will apply only to new deposits made under these schemes.

The premise underlying the EET model is that an individual tax payer has availed of the tax deduction while making the investment. This, however, is not true in all cases. There are individuals whose income is currently below the taxable income level. Also, there are individuals who have exhausted their deduction limit under the IT Act or the DTC, and have still made investments in tax-saving instruments. In both these cases, the presumed deduction has not been actually claimed. Still, the receipts from tax-saving instruments would be taxable.

One should re-examine his tax-saving instrument portfolios and future investment options, as instruments like NPS may become more attractive.


Question: – I have a moneyback policy and an endowment policy. In case of the second, annual premium paid is 10 per cent of sum assured, and the premium needs to be paid until February 2011, while maturity benefit will be received in 2016. The premium payment period is 10 years, and policy term is 15 years. What will be the tax implications if direct tax code (DTC) is implemented, even though I will finish all premium payments by Feb 2011?

Answer: The Direct Taxes Code Bill, 2009, (DTC)will come into effect once approved by Parliament. If it goes through as it is, then, even the money received from the insurance company as survival benefit in a moneyback policy would have to be added to income in the year of receipt, and would be liable to tax. Even for insurance policies where the premium payment term is shorter than the actual term of the policy, the impact of DTC does not change. As per DTC, any amount received from an insurance policy, including the bonus amount, shall be taxable at the hands of the policyholder. The structure would shift from EEE (tax exempt throughout) to EET (taxable only on maturity). However, only those proceeds received by the policyholder from the insurance policy will not be added, wherein two conditions are fulfilled:

a. Premium paid in any year is less than 5 per cent of the sum assured, and
b. The policy needs to run till maturity.

The death benefit for these plans, however, remains tax-free.

Question: – The DTC proposes to impose tax on maturity returns. What happens to the policyholders who have invested in unit-linked insurance plans (Ulips) for quite a long time, like 5-7 years? Are those policies included, or do we have to exit before a cutoff date to save taxes on maturity?

Answer: Ulips will come under the tax net if the DTC is passed. Existing holders will also be affected, and the new rules, if implemented in their present form, would apply to all. Every investment product comes with a legal disclaimer saying: “Tax benefits will be available as per the prevailing tax laws, which are subject to change.” So, the tax laws prevalent in the year of receipt are always considered, unless notified by the government.

Exiting from Ulips may not be a good solution as Ulips are heavily front-loaded with charges. Any exit before at least 10 years may prove much costly. However, those Ulip policies, wherein the premium is less than 5 per cent of the sum assured if run till maturity, would remain outside the tax net.

Question: – How will the DTC affect pension plans?


Answer: The DTC will not have any impact on the New Pension System (NPS). The NPS continues with the EET status. Unlike the present scenario, wherein the commuted amount from the pension plans of life insurance companies are tax-free, the DTC proposes to tax it unless the lump sum amount is invested in any approved fund. Commuted amount kept in such a fund will not be subject to tax, but, once withdrawn, will be taxable in the year of receipt. Pension or annuity from the NPS or the pension plans of life insurers continues to be taxable in the DTC proposals.

Question: – I have heard that Public Provident Fund (PPF) is going to be taxable under new income tax rules. Will these rules apply only to new accounts, or to the existing ones as well?

Answer: The taxability of various investment products is set to change if the DTC gets implemented in its present form. However, any withdrawals from the PPF balance accumulated till 31 March, 2010 remain tax-free in any year of receipt. Contributions, after that, will be taxed whenever they are withdrawn in the year of receipt. This system will apply to existing accounts as well.

Question: – I have a pending house loans. Will DTC affect it?


Answer: The current tax benefits on the principal repayment of a home loan stands at Rs 1 lakh, while that of the interest payments is up to Rs 1.5 lakh a year. As far as the DTC in its present form is concerned, the pending home loans would not continue with tax benefits. Interest and principal repayments would not qualify for deductions for a self-occupied house. The tax benefits on house loans taken for properties on rent, however, will continue as it is.

Question: – How much would one be able to save on taxes under the new Direct Tax Code, and where can these investments be made?


Answer: The present limit of Rs 1 lakh has been proposed to be increased to Rs 3 lakh per annum. The tax savings options under Section 80C would stand replaced by Section 66, and the investment basket would include only only products from the ‘permitted savings intermediaries’, like approved provident fund, approved superannuation fund, life insurers and NPS, besides claims for tuition fee expenses. This simply means no more tax breaks for National Savings Certificates and equity linked savings schemes (ELSS) of mutual funds.

Question: – I have been investing in stock market and equity mutual funds for the last five years. Will they be taxable at the time of selling them?


Answer: The DTC does not distinguish between short and long-term capital gains. It seeks to implement a recommendation of previous tax reform panels, that the contribution and return of all investments be made tax-exempt with maturity proceeds being taxable. This will impact your stocks and equity mutual fund investments. Currently, in case you sell units of equity-oriented MFs after a year, you do not need to pay any capital gains tax. But if the DTC is implemented, you will need to pay taxes when you sell your stocks, real estate, gold or MFs.

However, in case of gains made for more than one year, the Code will allow you an indexation benefit, before being added to your income.

More Under Income Tax


  1. Chintaman Godbole says:

    Dear sir,
    Is there any limit on insurance premium u/s 80C? Also please let me know the various limits on other tax saving instruments included in revised form of DTC.

  2. Prahlad says:

    Now, DTC is going to effective by 30 March 2011 my question is, I have heard that General Provident Fund (GPF) is going to be taxable under new income tax rules. Will these rules apply only to new accounts, or to the existing ones as well?

  3. Rajendra Prasad, ICICI Bank says:

    What will be the proposed tax under new Tax regime for the employees whose annual salary is 5 & 6 lakhs, what is the Tax slab under DTC implementation?

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January 2021