Amount received under keyman Insurance policy by the employee is tax free or taxable?


Amount received under keyman Insurance policy by the employee is tax free or taxable? 

Keyman Insurance Policy is often considered as a tool of tax planning. I often come across a question in my seminar, whether the amount received on maturity of the keyman policy is tax free if it is received by after the same is assigned by the employer?

In short, If a keyman insurance policy is assigned by an employer in favor of keyman then whether the amount received by the employee at the time of maturity will be exempt u/s 10(10D) or not.

Argument placed by the keyman (assessee receiving it) is, once the policy is assigned by the employer, it seized to be the keyman insurance policy and can be considered as the Regular insurance policy and so it must be eligible for exemption u/s 10(10D).

Yes, there are judgment in favor of above argument which says that after the keyman insurance policy is assigned by the employer in favor of keyman, the amount received on surrender or on maturity will be exempt from tax and nothing would be taxable in the hands of the employee. Obviously, it was logical interpretation by the court and exemption was validly considered by the judiciary.

However, the position has changed after the Finance Act – 2013 which has amended section 10(10D) to plug the loophole of tax planning via keyman insurance policies.

Amendment has added the word that defining the term “Keyman Insurance Policy” by adding following words:

 “and includes such policy which been assigned to a person, at any time during the term of the policy, with or without any consideration.

In short, once a keyman insurance policy, always a keyman insurance policy is the rule after 2013 amendment.

The explanatory memorandum to above provisions reads as under:

“The existing provisions of clause (10D) of section 10, inter alia, exempt any sum received under a life insurance policy other than a keyman insurance policy. Explanation 1 to the said clause (10D) defines a keyman insurance policy to mean a life insurance policy taken by a person on the life of another person who is or was the employee of the first-mentioned person or is or was connected in any manner whatsoever with the business of the first-mentioned person. 14 It has been noticed that the policies taken as keyman insurance policy are being assigned to the keyman before its maturity. The keyman pays the remaining premium on the policy and claims the sum received under the policy as exempt on the ground that the policy is no longer a keyman insurance policy. Thus, the exemption under section 10(10D) is being claimed for policies which were originally keyman insurance policies but during the term these were assigned to some other person. The Courts have also noticed this loophole in law. With a view to plug the loophole and check such practices to avoid payment of taxes, it is proposed to amend the provisions of clause (10D) of section 10 to provide that a keyman insurance policy which has been assigned to any person during its term, with or without consideration, shall continue to be treated as a keyman insurance policy. The above amendment will take effect from 1st April, 2014 and will, accordingly, apply in relation to assessment year 2014-15 and subsequent assessments years”.

Does it mean that the keyman insurance planning don’t enable corporate in saving tax? It may not be true. I will cover it in my other personal issue of The Tax Talk.