Topic 4: When and How can Tax Benefits Claimed Earlier be Reversed?

You should be careful in choosing what you invest in as this can not only be a dud investment but also increase your tax liability in future.

Not many would be aware but there are certain tax-saving products whose tax benefits can be nullified/reversed in the future if the rules are violated. This post is to make you aware of such hidden traps.

Life Insurance Policy:

Life insurance products like ULIPs, Endowment plans or money back plans are the most mis-sold product in the name of tax saving investments. These investments in most cases yield very low returns and there can be a reversal of tax benefits claimed in previous financial years.

As per income tax rules, the previous year tax benefits get revoked if you

  • Haven’t paid at least 2 years premium in case of traditional policies like endowment & money back
  • At least 5 years premium in case of ULIPs (unit-linked insurance plan)
So be careful if you are investing in these to save taxes.
Pension Plans:

As per tax laws, the tax benefit claimed on payment of pension plan premium is reversed if the premium is not paid for at least 2 years.

Home Loan:

You get tax exemption for payment of principal component of home loan u/s 80C. This tax benefit on home loan principal gets reversed if the house is sold within 5 years of purchase/possession. However, there is no such reversal provision for interest component of a home loan – the benefit stays even if the house is sold within 5 years.
Tax Benefit Reversal – How it Impacts you?

We take an example to show how the tax benefit reversal increases your tax outgo.

Let’s assume you bought (or were miss-sold) a pension plan with the premium of Rs 1.5 lakhs. In the first year, you paid the premium and took benefit u/s 80C for tax exemption of Rs 1.5 lakh. After few months you realize it’s a dud product and wants to move over. So, you would want to surrender it or not pay the further premium. But as per tax rules, the last year tax benefit would be nullified in case you do not pay the premium for at least 2 years.

If you were fortunate and had other investments like EPF which are eligible for 80C benefit last year, then the calculation would be: Additional income to be added = Rs 1.5 Lakh – EPF in that financial year

So even though benefits u/s 80C weren’t claimed in the return filed, you can still reduce the tax benefit reversal only to the extent of the gap between the other 80C investments and the premium amount claimed.

You should, therefore, keep investment proofs with you until the tax reversal period expires.
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