Tax Opinion by PriceWaterHouseCooperNote on tax implication relating LONG TERM REWARDPROGRAM FOR EMPLOYEES1. Background :IRDA in their circular dated 22ndMarch 2006 has clarified thatproducts sold under the employer employee schemes could be otherthan term insurance.Under this scheme, the employee is the life assured as well as thepolicy holder. The employer agrees to pay the premium on behalf ofthe employee under following circumstances as a “reward tool”.• The policy will be assigned to the employer during the conversion ofthe policy.• The policy will be re-assigned back to the employee only after aspecified period agreed by a board resolution passed by thecompany.
• * If the employee quits the job within the specified period theemployer can either surrender the policy for its surrender value tothe insurance company or absolutely assign the policy to theemployee as a part of the terminal benefit.• However if the employee dies during the specified period thanthe benefits of the policy are passed to the nominees of theemployee.• No withdrawal will be allowed to be made by the employer.• The policy document once issued will be endorsed with a specialendorsement and dispatched to the employer.Life Insurance co has requested us to provide tax advice on itsspecific queries relating to the above mentioned long term rewardsprograms.2. Queries and Our views.The Specific queries raised and our high level comments thereon aregiven in the subsequent paragraphs :
2.1 Tax Implications in the hands ofEmployer:2. Can the company claim business expense underSec 37(1) when it pays for the premiums ?Our commentsIt would be possible for the employer to claim deduction u/s 37(1)of the Act. on the basis that the expenditure is incurred whollyand exclusively for the purpose of business and the employerhas no control over the monies paid as a premium.2.1.2 Will there be any taxable amount attached when thepolicy is assigned to the company during conversion ?Our Comments :The first premium is paid by the employer on condition that thepolicy will be assigned to the company during conversion. Hence,at no point of time does the employee have right on policy orenjoy the benefit of the policy.Based on this, it can be argued that no amount should be subjectto tax in the hands of the employer when the policy is assigned tothe employer during conversion.
2.2 Tax Implications in the hands ofEmployees :2.2.1When the company is paying the premium on behalf ofemployee will it be treated as perquisite in hands ofemployee?Our Comments :Pre-conversion : the first premium would be paid by theemployer on behalf of the employee. However, the preconditionto this payment is that the employee would assign the policy.Thus it can be argued that no benefit accrues to the employee asthe beneficiary of the policy is the employer himself and henceno amount is subject to tax as perquisite.Lock-in Period : The premium paid would not be taxable asperquisite as the employee does not enjoy any benefit till the re-assignment of the policy in his name.Post-Reassignment : The premium paid by the employerwould be treated as perquisite in the hands of the employee.
Assignment value :The Act or the Income-Tax Rules, 1962 (“the Rules”) do notspecifically provide the value at which the perquisite in the natureof assigned policy would be subject to tax in the hands of thepolicy.However, it is pertinent to note that Central Board of Direct Taxes(“CBDT”) has vide circular no. 762 dated February 18, 1998clarified that the surrender value of the policy, endorsed infavor of the employee would be taxable in thehands of the employee as “profit in lieu ofsalary”.Based on the aforesaid circular, a possible argument could bethat when such policy is assigned after the payment of fewpremiums by the employer, the surrender value of thepolicy on the date of assignment would betaxable in the hands of the employee.
Given this, while the Act as well as the Rules are silent on theissue of valuation in such cases, analogy can be drawn from thevaluation norms for other items of perquisites.For most of the other items / perquisite, the Rules provide thatthe expenditure incurred by the employer would besubject to tax as perquisite. Accordingly, this may beapplied to for assignment of policy as well. Further, the Rulesspecifically provides that in case of transfer of movable assets,the value of perquisite would be the cost of incurred by theemployer on such asset as reduced by depreciation. It can beargued that a policy is a “movable asset”.Based on the above, it can be argued that the value of perquisitefor an assigned policy would be the cost incurred (premiumspaid) by the employer.2.2.2As the Employee does not enjoy immediate benefit on that valuewill he have to pay tax on it ?
Our Comments :pl. refer to answer in Para 2.2.1 above.2.2.3. When the lock in period is over and thepolicy is assigned to the employee, what will bethe tax treatment in the hands of the employee?Kindly specify in light of the fact that the employeenow has legal right to a policy that now has amonetary value if surrendered.Our Comments :pl. refer to answer in para 2.2.1 above.2.2.4if the value of such policy is taxable as perquisite then thetaxation is based on which value of the policy (premiums paid orfund value)?Our Comments :The employee shall be eligible for tax exemption u/s 10(10D) ofthe Act subject to fulfillment of the condition summarized inAnnexure A. For Taxation on assignment, please refer to answerin para 2.2.1 above.2.2.5. What will be the tax treatment of the proceeds of the policy
in following circumstances :a) Death of the employee during the specified period.b) Death of the employee after the specified period.c) Maturity, withdrawals or surrender done by theemployee after the specified period.Our Comments to all three questions:The exemption u/s 10(10D) would be available subject tofulfillment of conditions summarized in Annexure A.Annexure AExemption under section 10(10D) of the Act would be availablesubject to the satisfaction the following :1. Such sum is not received by Assessee in respect of maintenanceincluding medical treatment of a Dependant who is a person withdisability (as prescribed for deduction under section 80DD of theAct)2. Such sum is not received under the keyman insurance policy.3. The policy premium payable for any of the years during the termof the policy does not exceed ten percent of the actual capitalsum assured (This condition would not apply in case the sum isreceived on death)
Annexure B• CIT vs. L.W. Russel (S3ITR91 (SC)In this case certain contribution was paid by the employer societytowards the premium payable by the respondent-employee to asuperannuation fund set up by the society. From that fund, certainpayments were to be made to the employees upon their reaching theage of superannuation. It was sought to be added in the taxableincome of the employee in the concerned assessment year ascontribution towards perquisite under s.7(1) Explain.1 sub-cl.(v) of theIT Act, 1922. The apex Court held that to be a perquisite, it impliesthat an immediate right is conferred on the employee in respect ofthose benefits. It cannot apply to contingent payments to which theemployee has no right till the contingency occurs. It was onlycontingent interest depending upon the reaching the age ofsuperannuation. Hence, it was not a perquisite allowed to theemployee.• Commissioner of Income -Tax, delhi vs Lala Shri Dhari (ITR
192) (Del HC)• Commissioner of Income-Tax, Delhi Vs. Vinay Bharat Ram(129 ITR 128) (Del HC)In both the cases the question was raised as to the premium paid bythe employer towards policy of personal accident insurance of theemployee. It was held that neither clause (iii) nor (iv) of Explanation 1to s. 7(1) for the 1922 Act. Would be applicable to the amount ofpremium paid by employer. The premium could not be assessed inthe hands of the employee as “perquisite”.• Commissioner of Income Tax vs J.N.Vas.(240 ITR 101) (BomHC)Employer paid a sum for the purchase of single premium annuitypolicy on the life of the employee cannot be regarded as perquisitewithin the meaning of section 17(2) of the income-tax Act 1961, andconsequently cannot be included in the assessees income under thehead “Salaries”. The amount of premium paid towards single premiuminsurance policy did not vest in the assesses. At best he had acontingent right therein.• Commissioner of Income Tax, Karnataka, Banglore. Vs Amco
Batteries Limited (150 ITR 48) (Kar HC)Employer paid the premium on the accident insurance policy taken bythe assessee company in relation to personal accident or death byaccident of some of the employees. It was held that the premium paidon personal accident insurance policies of its employees should notbe treated as a perquisites.Further Clarifications as to why premium paid by the co. will not betreated as Perk for an employee1. Death benefit will go to nominee of employee - Employee is taxed ifemployee has vested rights or absolute rights. He does not have it.The policy holder (owner) is organization and policy is conditionallyassigned covering 2 major points - 1. Accumulation benefit goes toemployee on fulfillment of assignment condition 2. Death benefit willbe paid to family in case employee dies. Even in case of death benefit -employee doesnt get money his family receives it !! Analogy can bedrawn from the fact that, each organization takes accidental / purerisk cover /medi claim insurance for employees. Does employee getstaxed on it ?2. The said policy is not taken because employee wants it but taken toretain him by organization. The terms are - If you stay with us for 5years we pay you so much money and incase of death we will pay yourfamily so much (only in case of death) - Life insurance hence becomesonly convenient tool.3. The money is paid by company to Life Insurance Company and notto employee.4. Definition of "perquisite" appearing in section 40A(5), Explanation
2(b) (iv), namely, "payment by the assesses of any sum in respect ofany obligation which, but for such payment, would have been payableby the employee". - Here there is never an obligation by employee /director to pay the premium but the obligation is only of employer.