Taxation of ULIPs, NPS, PF, AIF and Others

Today, in addition to pure debt and equity (listed) investments, investors also have access to other avenues like Unit Linked Insurance Plans (ULIPs), National Pension Scheme (NPS), Employee Provident Fund (EPF), Public Provident Fund (PPF), Alternative Investment Funds (AIFs), Specialized Investment Folio (SIF), Portfolio Management Services (PMS), Market-Linked Debentures, and so on.

In this article, we cover the taxation of these investment avenues and how to translate tax understanding to smarter investment choices.

If you are already familiar with the taxation rules, you can directly jump to Turning Tax Understanding into Smarter Choices part of the artcile, where we convert tax understanding into smarter investment decisions.

Introduction & Taxation Rules

Unit Linked Insurance Plan (ULIP)

A ULIP is a hybrid financial product that provides life insurance coverage alongside market-linked investment options (equity, debt, or balanced).

Contribution to ULIPs is allowable as a deduction upto ₹1.5 lakhs* if the annual premium is less than 10% of the sum assured. This deduction is available only in the old tax regime.

At maturity, the tax treatment of ULIP proceeds is:

• Bought before 1 February 2021 – Exempt

• Bought after 1 February 2021 but the annual premium is < ₹2.5 lakhs – Exempt

• Bought after 1 February 2021 and annual premium is > ₹2.5 lakhs – Taxed as Capital Gains (see Basics of Equity Taxation for capital gains taxation rules)

If a ULIP is withdrawn before its maturity, the proceeds (surrender value) are taxable and any deduction claimed for contributions in earlier years will also be reversed.

*Throughout this blog, any mention of ₹1.5 lakhs limit refers to the the total limit of ₹1.5 lakh for all deductions available within section 80C.

National Pension Scheme (NPS)

The NPS is a government-regulated, market-linked retirement scheme that offers a mix of equity and debt investments with a dual benefit of tax deductions during the saving years and a regular pension after age 60.

Individuals can contribute to NPS during their earning years, either by themselves or by contributions from their employers (as a part of the salary structure, usually optional or at the choice of the employee). These contributions are invested in schemes (selected by the employee) for building the individual’s retirement corpus, which are intended to be withdrawn at retirement (subject to conditions). The below table summarizes the tax treatment at each stage:

	Contribution	Withdrawal at Retirement	Pre-Mature withdrawal (Full withdrawal / Account closure)	Partial withdrawal (Emergencies)
Self Contribution	Old Tax Regime: Deduction of up to ₹1.5 lakhs under section 80C* (restricted to 10% of salary**)(+)Additional deduction of ₹50k New Tax Regime: No deduction	Lump-sum withdrawal upto 60% of total corpus – Exempt If the remaining 40% is used to buy annuity - Exempt	Lump-sum withdrawal upto 20% of total corpus – Exempt If the remaining 80% is used to buy annuity - Exempt	Upto 25% of own contribution corpus is exempt. Can be withdrawn only after 3 years and for specific reasons only
Contribution by employer	Old Tax Regime: Deduction up to 10% of salary** for private employees and 14% for government employees  New Tax Regime: Deduction up to 14% of salary (subject to a cap of ₹7.5 lakhs*)

* The limit of ₹1.5 lakhs is the total limit for all deductions available within section 80C

** Reference of salary throughout the table means only Basic salary + Dearness Allowance components of salary

*** The deduction limit is ₹7.5 lakhs is the total limit for EPF, Superannuation and NPS.

Investors need to be mindful of the ₹7.5 lakhs limit as they progress on the corporate pay ladder as it could have meaningful tax and asset allocation implications.

Employee's Provident Fund (EPF)

EPF is a mandatory, government-backed savings scheme for salaried individuals in India, where both you and your employer contribute a portion of your salary to build a retirement corpus. Compared to NPS, which invests in a mix of debt and equity, EPF gives you fixed returns (as of February 2026 - 8.25% pa).

The taxation is as follows:

	Contribution	Interest – while you are working	Interest – after you stop working	Withdrawal
Employee Contribution	Old Tax Regime: Deduction of up to ₹1.5 lakhs under section 80C* New Tax Regime: No deduction	Exempt, but if your annual contribution is >₹2.5 lakhs, interest on excess is taxable.	Taxable	If more than 5 years of continuous service - Exempt
Contribution by employer	Exempt up to 12% of salary***	Exempt (if within the overall contribution limit of ₹7.5 lakhs***)	Taxable

* The limit of ₹1.5 lakhs is the total limit for all deductions available within section 80C

** Reference of salary throughout the table means only Basic salary + Dearness Allowance components of salary

*** The deduction limit is ₹7.5 lakhs is the total limit for EPF, Superannuation and NPS

Investors need to be mindful of the ₹2.5 lakhs and ₹7.5 lakhs limit as they progress on the corporate pay ladder as it could have meaningful tax and asset allocation implications.

Public Provident Fund (PPF)

PPF is a voluntary government-backed savings scheme (simply put, its EPF for non-employees + employees). Similar to EPF, it offers fixed interest (currently 7.1%pa). The lock-in period is 15 years.

The contributions to PPF are allowed a deduction upto ₹1.5 lakhs - but only in the old tax regime. The interest earned and maturity proceeds are also exempt from tax.

Alternative Investment Funds (AIF)

An AIF is an investment vehicle that pools money from sophisticated investors to invest in a mix of traditional and non-traditional assets like early-stage companies, private equity, real estate, infrastructure and so on. AIFs are generally riskier than traditional listed equity shares and have a minimum ticket size of ₹1 crore. There are 3 types of AIFs based on the type of investments they make – Category I (venture capital, social, infrastructure investments), Category II (other non-leveraged investments) and Category III (leveraged investments, hedge funds etc).

Category I and Category II AIFs enjoy a pass-through status for income tax. What this means:

• AIFs do not have to pay tax on their income.

• The income of the AIF is assumed to be the income of its investors and is taxed in the hands of the investor.

• For example, if AIF earns capital gains during the year, then it is assumed that investor in AIF earned those capital gains (pro-rated for his share) and tax has to be paid by the investor accordingly.

This pass-through status is not applicable in case the AIF earns ‘income from business’ – usually AIFs do not have such income. They may have some consultancy fee from portfolio companies, which may classify as business income. For business income, AIF has to pay tax at the maximum marginal rate (usually ~42.7%) and no tax is to be paid by the investor.

For Category III AIFs, the AIF has to pay tax at the maximum marginal rate and no tax is payable by the investor on the income received from AIF.

Portfolio Management Services

A sophisticated investor may engage a SEBI registered portfolio manager to build and manage their portfolio of stocks, who charges a management fee. The minimum ticket size for an investment in PMS is ₹50 lakhs.

Since the underlying stocks (selected by the portfolio manager) are held within your own demat account, the taxation for PMS is similar to taxation of equity shares. You can refer to Part I of this series, which covers the basics of equity taxation.

The deduction of management fees from capital gains (to reduce your tax liability) for taxation purposes is a contentious issue.

Specialized Investment Funds (SIFs)

SIFs are a new SEBI-regulated asset class designed to bridge the gap between Mutual Funds and PMS, allowing for sophisticated "Long-Short" and derivative-based strategies with a minimum investment of ₹10 lakh.

The tax treatment of SIFs is similar to mutual funds. We have covered taxation of mutual funds at Part I (Equity) and Part III (Hybrid and Debt) of our series

Market Linked Debentures

Market-linked debentures are instruments where the underlying principal component is a debt security but returns are linked to market or commodity.

Market-linked debentures are taxed at an investor’s slab rates and can be used for tax efficiencies in equity investing if the investor’s tax slab is lower than 12.5% (or 20% in case the tenure is <12 months).

Turning Tax Understanding into Smarter Choices

Use of NPS for Retirement Corpus

Contributions to NPS enjoy good tax benefits and presents a good opportunity to allocate a portion of salary tax-efficiently to your retirement corpus. Despite the lack of flexibility (lock-in, annuity requirement at withdrawal), NPS can still be a good option for funds allocated towards building an investor’s retirement corpus. However, one needs to be fairly confident that the funds will not be required before retirement.

Tax Efficient Debt-Equity Switching

Changing market situation or life circumstances may warrant a change in allocation between debt and equity. If the investments are in equity shares or mutual funds, changing allocation can invite capital gain tax implications.

NPS and ULIPs offer the ability to change asset allocation between debt and equity (subject to certain limits and conditions) without any tax implications, at nominal charges. While both are subject to lock-in requirements, a portion of an investors’ asset allocation can be made to these to allow for tactical switching between debt and equity.

Mindfulness of Limits

Employer’s contributions to EPF, NPS and Superannuation funds have a limit of ₹7.5 lakhs in total. Contributions beyond this limit (and interest thereon) becomes taxable. Similarly, annual EPF contributions exceeding ₹2.5 lakhs result in taxability of EPF interest (to the extent of the excess). As employees grow in their career, they need to be mindful of these limits – readjusting their optional contributions and considering post-tax returns in their asset allocation decisions.

EPF Withdrawal After Leaving Workforce

If you are looking to start your entrepreneurial journey or nearing retirement, this lesser-known but important provision is useful for you.

While interest earned on EPF is generally tax free (subject to contribution limits discussed above), if a person permanently leaves the workforce, the interest becomes taxable. If that is the case, investors need to consider EPF interest on a post-tax basis when comparing to other investment alternatives.

Final Thoughts

While these investment instruments may not be the more glamourous parts of your portfolio - change in circumstances, increase in salary/income, etc. can change the tax treatment of incomes, which investors need to be mindful of.

We, at Vinamra Capital, try to create tax-efficient asset allocation and re-balancing for our clients. If you would like to start building your investment portfolio, in a risk-aware manner, to meet your financial objectives, feel free to contact us.