Indian ULIPs and Endowment Plans for US Persons: Why a Policy That Is Tax-Free in India Becomes a US Filing Nightmare

An NRI in New Jersey set up an auto-debit from her Mumbai savings account in 2016 for a unit-linked plan her relationship manager sold her before she moved, Rs 3,00,000 a year into an equity-linked policy that matures tax-free under Section 10(10D). Ten years on, she has paid in Rs 30,00,000, the fund has grown nicely, and she has never reported a single rupee of it on a US tax return, because in her mind it is an Indian insurance policy and it is tax-free. The policy is doing exactly what it was sold to do in India. It is also, on the US side, a stack of unfiled Form 8621s, a possible foreign trust with unfiled Forms 3520 and 3520-A, a cash-value contract that may have failed the US definition of life insurance years ago, and a string of 1% excise charges nobody told her about.

This is the trap, and it is widespread. The Indian insurance-cum-investment policy (a ULIP, an endowment plan, a money-back plan, the classic LIC savings policy) is one of the most heavily sold products to the Indian middle class, and it is genuinely tax-free in India when it qualifies. The moment the holder becomes a US person, that same policy collides with four separate, overlapping US tax regimes, none of which cares about Section 10(10D). The premiums keep auto-debiting, the holder keeps assuming it is handled, and the unfiled forms keep stacking up at the most punitive end of the US penalty regime.

The 30-second answer: An Indian ULIP, endowment, or money-back policy is tax-free in India under Section 10(10D), but for a US person (citizen, green-card holder, or US tax resident) it triggers up to four overlapping US problems. The funds inside a ULIP are PFICs, reportable on Form 8621 under the punitive Section 1291 regime. The policy may be a foreign trust or foreign grantor trust, triggering Form 3520 and Form 3520-A, whose penalties are the greater of $10,000 or 35% of contributions, or 5% of assets, with more for continued failure. If the contract fails the US life-insurance test under Section 7702, the inside cash-value buildup is currently taxable, not deferred. A 1% federal excise tax under Section 4371 hits premiums paid to a foreign insurer. The India exemption does not cross the border. The classic mistake is to keep auto-debiting premiums after moving to the US.

This guide is for the US-person NRI specifically: a US citizen, a green-card holder, or anyone who is a US tax resident under the substantial-presence test and therefore files a US Form 1040 on worldwide income. If that is you and you hold, or are still paying into, an Indian ULIP, endowment plan, money-back plan, or whole-life savings policy, this is written for you. What follows is why the India-side tax-free treatment is irrelevant in the US, the four US regimes that bite, a worked example showing the US exposure against the India-side zero, the edge cases (term insurance is generally fine, surrender versus paid-up, the streamlined catch-up route), and an honest read on what to actually do before you pay the next premium.

Why Section 10(10D) does not protect you in the US

Start with the source of the confusion, because it is the single belief that keeps people paying premiums into trouble. In India, Section 10(10D) of the Income Tax Act exempts the maturity proceeds of a life insurance policy from tax, subject to conditions on the premium-to-sum-assured ratio and, for ULIPs issued on or after February 1, 2021, the Rs 2.5 lakh aggregate annual premium ceiling. When the policy qualifies, the maturity payout is genuinely tax-free in India, and so is the death benefit in almost every case. That is real, and it is why these products sell.

The error is treating that Indian exemption as if it were a feature of the asset rather than a feature of Indian law. A US person is taxed by the United States on worldwide income, and the US tax code makes its own independent judgments about what an Indian insurance-cum-investment policy is and how its components are taxed. Nothing in the Internal Revenue Code adopts Section 10(10D). The US does not recognise a foreign country's exemption for an asset held by its own tax residents. So the maturity proceeds that are exempt in India are not exempt in the US, the inside buildup that compounds tax-free in India does not necessarily compound tax-free in the US, and the policy that is invisible to the Indian return is highly visible, and reportable, on the US return.

Worse, the US does not just decline the exemption and tax the policy like a simple foreign investment. It looks at the structure and applies whichever of several harsh regimes fit. For a ULIP, several fit at once. This is the part that turns a tax-free Indian policy into a US filing nightmare: not a single clean tax, but a stack of overlapping reporting obligations, each with its own form and its own penalty.

The four US regimes that hit an Indian ULIP

There are four separate problems, and a single ULIP can attract all four in the same year. Understanding them separately is the only way to see why the exposure is so much larger than the holder expects.

1. The funds inside the ULIP are PFICs (Form 8621, Section 1291)

A ULIP is a unit-linked plan: your premium, after charges, buys units in investment funds that hold Indian equities and bonds. From a US standpoint, each of those underlying funds is a Passive Foreign Investment Company (PFIC), the same classification that catches every ordinary Indian mutual fund held by a US person. A ULIP is therefore effectively a basket of PFICs wrapped inside an insurance contract.

PFICs are reported on Form 8621, one form per PFIC, every year the thresholds are met. The default tax regime is Section 1291, the excess-distribution regime, and it is deliberately punitive. Under Section 1291, gains and "excess distributions" are not taxed at favourable capital-gains rates. They are spread back over your entire holding period, taxed at the highest ordinary income rate in force for each prior year, and then hit with an interest charge for the deferral, compounded. The two elections that soften the PFIC regime, the qualified electing fund (QEF) election and the mark-to-market election, both require information or marketability that an opaque ULIP fund almost never provides, so the US person is usually stuck in the worst regime, Section 1291. This is the same machinery covered in detail in the Indian mutual funds PFIC trap for US persons guide; the ULIP simply multiplies it across several funds at once.

2. The policy may be a foreign trust (Forms 3520 and 3520-A)

This is the regime most people have never heard of, and it carries the heaviest penalties. The IRS may treat a foreign insurance-cum-investment policy, particularly one where the investment element dominates, as a foreign trust or a foreign grantor trust with the policyholder as grantor. If it does, two forms are in play. Form 3520 reports your transactions with the foreign trust, including transfers to it (arguably each premium) and distributions from it. Form 3520-A is the annual information return of the foreign trust itself, which the US grantor is responsible for ensuring is filed.

The penalties here are why this regime matters more than the others. For Form 3520, the penalty for failing to report a transfer to or distribution from a foreign trust is the greater of $10,000 or 35% of the amount of the contributions or distributions. For Form 3520-A, the penalty is the greater of $10,000 or 5% of the gross value of the trust assets treated as owned by the US person. Both carry additional amounts for continued failure after the IRS notifies you. These are per-year, per-form penalties, and they apply regardless of whether any US tax was actually due on the policy. A holder who has paid a decade of premiums into what the IRS later treats as a foreign trust is looking at a penalty exposure that can dwarf the policy itself.

3. The contract may fail the US life-insurance test (Section 7702)

US tax law has its own definition of what counts as life insurance, set out in Section 7702. To enjoy the US tax deferral that genuine life insurance gets, the contract has to satisfy specific tests limiting how much cash value can build relative to the death benefit. Indian ULIPs and many endowment and money-back plans are built as investment vehicles with a thin layer of insurance, exactly the profile that fails the Section 7702 tests.

When a foreign policy fails to meet the US definition of life insurance, it loses tax deferral. The "income on the contract", the inside cash-value buildup, can become currently taxable in the US, year by year, as ordinary income, even though no money has come out of the policy and even though India is treating the same buildup as tax-deferred and the eventual maturity as tax-free. So the US person can owe US tax annually on growth they have not received, on a policy they believed was tax-sheltered. This is a distinct problem from the PFIC issue and can stack on top of it.

4. The 1% federal excise tax on premiums (Section 4371)

The fourth regime is the most mechanical and the easiest to overlook. Section 4371 imposes a 1% US federal excise tax on premiums paid to a foreign insurer on a life insurance, sickness, or accident policy covering a US person. It is reported on Form 720. So every premium you send to LIC or to an Indian private insurer is, in principle, subject to a 1% US excise charge.

There is a treaty carve-out, but it is narrower than people hope. The excise tax can be exempted where an income tax treaty contains an excise-tax exemption and the foreign insurer has a closing agreement with the IRS under Revenue Procedure 2003-78. The India-US treaty does not provide the standard insurance-excise exemption that, for instance, some European treaties do, and Indian insurers do not generally hold IRS closing agreements, so the 1% excise tax usually applies to premiums paid to an Indian insurer by a US person. On a Rs 3,00,000 annual premium, 1% is Rs 3,000 a year, modest in isolation, but it is one more unfiled obligation on a policy that already has several.

A worked example: the India zero against the US stack

Numbers make the gap concrete. Take Priya, a green-card holder living in California, who bought an equity-linked ULIP from an Indian insurer in March 2016, before she moved, and kept the auto-debit running afterwards. The policy facts:

• Annual premium: Rs 3,00,000, paid from her Indian savings account for 10 years.
• Total premiums paid: Rs 3,00,000 times 10, or Rs 30,00,000.
• Fund value after 10 years, after the ULIP's own charges: Rs 52,00,000.
• Notional inside gain over the period: Rs 52,00,000 minus Rs 30,00,000, or Rs 22,00,000.
• The policy was issued before February 1, 2021, so on the India side the maturity qualifies for Section 10(10D) and the entire Rs 52,00,000 is tax-free in India. India's tax on this policy is Rs 0.

Now the US side, where the same Rs 0 becomes a stack.

PFIC and Form 8621. Priya's ULIP units sit in, say, three underlying Indian equity funds. Each is a PFIC, so she should have filed three Form 8621s every year since she became a US person, ten years of three forms is thirty unfiled Form 8621s. The inside gains, when realised at maturity or surrender, fall under Section 1291: the Rs 22,00,000 gain is allocated back across the holding period, taxed at the highest ordinary rate for each year (up to 37% for recent years), plus an interest charge for the deferral. There is no 12.5% long-term rate and no Rs 1.25 lakh exemption here; the US regime is built to remove the benefit of deferral entirely.

Foreign trust, Forms 3520 and 3520-A. If the IRS treats the policy as a foreign grantor trust, each of the ten annual premiums is arguably a reportable transfer to a foreign trust on Form 3520, and a Form 3520-A was due every year. The penalty exposure, before any tax, is the headline number. Form 3520-A alone is the greater of $10,000 or 5% of the trust assets: 5% of a roughly $62,000 fund value (Rs 52,00,000 at about Rs 84 to the dollar) is about $3,100, so the $10,000 floor applies, per year. Across the years the policy has been held, the 3520 and 3520-A floors alone can run into tens of thousands of dollars in potential penalties, entirely separate from any tax.

Section 7702. Because the ULIP is investment-heavy, it likely fails the Section 7702 life-insurance test, so the Rs 22,00,000 of inside growth may have been currently taxable as ordinary income across the ten years, not deferred to maturity. That means amended returns for open years could be required even before the policy pays out.

Section 4371 excise. Ten years of Rs 3,000-a-year excise (1% of Rs 3,00,000) is Rs 30,000 of unpaid excise tax on Form 720, again separate from everything else.

Put it side by side. India: Rs 0 tax, no forms. United States: thirty-plus unfiled information returns, a Section 1291 ordinary-rate-plus-interest tax on a Rs 22,00,000 gain, possible annual ordinary-income tax on the inside buildup, a 3520/3520-A penalty exposure with a $10,000-per-year floor, and a decade of unpaid 1% excise. Same policy, same money, two completely different worlds. The figures here are illustrative because the exact tax depends on her rates each year, the underlying fund detail, and how the IRS characterises the contract, but the shape is not illustrative: a tax-free Indian asset is a compounding US compliance liability.

Edge cases

The blanket "this is a US problem" needs nuance in several common situations.

Pure term insurance is generally fine. A genuine term life policy with no cash value and no investment component does not have a PFIC inside it, is not a savings vehicle that looks like a foreign trust, and has no inside buildup to tax under Section 7702. There is still, strictly, a 1% Section 4371 excise on premiums paid to a foreign insurer, but term insurance does not carry the PFIC and 3520 problems that make ULIPs and endowment plans toxic. If your only Indian policy is pure term cover, the US tax problem is small. The trouble is almost entirely a feature of the investment-cum-insurance products, the ULIP, the endowment plan, the money-back plan, and the whole-life savings policy.

Surrender versus making the policy paid-up. Once you know you hold a problem policy, the instinct is to act fast, but the right move depends on the numbers. Surrendering crystallises the gain and can trigger a large Section 1291 excess-distribution bill with the interest charge, but it stops the PFIC and trust reporting from compounding further and ends the premium-driven excise and contribution problem. Making the policy paid-up stops new premiums (which stops new PFIC contributions, new excise, and new arguable transfers to a foreign trust) while keeping the contract in force, which can suit a policy that is close to maturity or where surrender charges are punitive, but the PFIC and trust reporting on the existing value generally continue. There is no universal answer; the choice turns on the surrender value, the size of the embedded gain, how near maturity is, the surrender penalty, and whether the reporting failures are already large. This is exactly the decision to take to a cross-border adviser rather than guess.

The streamlined catch-up route. Many US persons in this position have been non-wilful: they genuinely did not know an Indian insurance policy was a US reporting matter. For non-wilful failures, the IRS Streamlined Filing Compliance Procedures can be the path back into compliance, filing amended returns and the missing information returns (8621, 3520, 3520-A, FBAR, 8938) for the covered years, with the streamlined miscellaneous penalty for domestic filers and no penalty for many qualifying foreign-resident filers. Streamlined is not automatic and the wilfulness question matters, so it is a decision to make with a cross-border tax professional, but it is frequently the difference between resolving this quietly and facing the full 3520 penalty stack. The FBAR and FATCA reporting that sits alongside all of this is covered in the FBAR and FATCA reporting guide for US-person NRIs, and the underlying foreign-asset disclosure on the India return side is in Schedule FA foreign asset reporting.

Endowment and money-back plans, not just ULIPs. The PFIC-basket problem is sharpest for ULIPs because the units are visibly invested in funds. Traditional endowment and money-back plans and LIC savings policies are less transparent, but they are still investment-cum-insurance contracts that can fail Section 7702 and can be treated as foreign trusts or foreign-policy income-on-the-contract, so they are not safe by virtue of being old-fashioned. They attract the Section 7702 current-taxation and the 3520 questions even where the clean PFIC-basket analysis is murkier. Do not assume a non-unit-linked policy is clear.

You moved back to India, or you give up the green card. If you cease to be a US person, the US regimes stop applying prospectively, but they do not erase the years you were a US person, and expatriation itself (giving up a green card held long enough, or US citizenship) has its own exit-tax consequences under Section 877A that can interact with these assets. This is its own specialist area and well beyond a premium decision.

What to actually do before the next premium

The single most useful action is the cheapest: stop the auto-debit before the next premium leaves your Indian account, at least until the policy has been assessed. Every premium you pay can add a PFIC contribution, a fresh 1% excise charge, and arguably another reportable transfer to a foreign trust. Pausing the debit does not commit you to surrendering; it just stops the problem from growing while you work out the answer.

Then, in order: gather the policy documents (the policy schedule, the fund factsheets showing the underlying investments, the premium history, and the current surrender and fund values), because the US characterisation turns on the detail. Get the policy assessed by a cross-border tax adviser who handles US-India returns specifically, not a general Indian CA and not a general US CPA, because the analysis sits in the seam between the two systems and the 3520 question in particular is specialist. Weigh surrender against paid-up with that adviser, using the actual numbers rather than instinct. And report correctly, through the streamlined route if you qualify, to get ahead of the 3520 and 8621 penalty stack rather than waiting for the IRS to find it through FATCA reporting, which Indian insurers and banks now do.

For US persons building or rebalancing an India portfolio more broadly, the companion piece on PFIC-safe ways for US persons to invest in India covers what to hold instead, and tax-efficient investing for NRIs sets the wider frame. The interaction with the India-US treaty, where it does and does not help, is in the India-US DTAA deep dive.

The closing read

The honest read is that an Indian ULIP or endowment plan is one of the worst assets a US person can hold, and the cruelty of it is that it looks like one of the safest. It is tax-free in India, it carries the word "insurance", and it auto-debits quietly in the background, so nothing about it signals danger. Underneath, it is a basket of PFICs in a non-qualifying insurance wrapper that the IRS can treat as a foreign trust, and it manages to trigger Form 8621, Forms 3520 and 3520-A, possible current taxation under Section 7702, and a 1% excise tax, all at once, while delivering an after-US-tax return that is poor and a penalty exposure that is severe. Section 10(10D) protects none of it.

So here is the recommendation, committed. If you are a US person, do not start an Indian ULIP, endowment, money-back, or whole-life savings policy, full stop. Pure term cover for genuine protection is fine, the investment-cum-insurance wrapper is not. If you already hold one and have been paying premiums since you became a US person, stop the auto-debit, get a cross-border assessment, and clean up the reporting, almost certainly through the streamlined route if your failures were non-wilful, before the IRS reaches it first. The wrapper that was sold to you as a tax-free Indian savings plan is, on the US side, a compliance liability that compounds with every premium you pay. The kindest thing you can do for yourself is to stop feeding it and get it assessed properly.

Related guides

• ULIPs for NRIs, a critical look at the charges and the Rs 2.5 lakh line
• Indian mutual funds and the PFIC trap for US persons
• PFIC-safe ways for US persons to invest in India
• FBAR and FATCA reporting for US-person NRIs
• Paying India insurance from an NRE or NRO account
• Tax-efficient investing for NRIs
• NRI estate planning and wills
• US situs estate tax for NRIs
• India-US DTAA deep dive
• Schedule FA foreign asset reporting
• Foreign tax credit and Form 67
• All investments guides
• All taxation guides

Disclaimer

This guide is general information for US-person NRIs, not personalised financial, tax, or insurance advice. The US treatment of foreign insurance-cum-investment policies is fact-specific and unsettled in places, particularly the foreign-trust characterisation that drives the Form 3520 and Form 3520-A obligations, and the outcome depends on the exact policy wording and the underlying investments. The PFIC and Section 1291 mechanics, the Section 7702 life-insurance definition, the Section 4371 excise tax and its narrow treaty and closing-agreement exemption, and the IRS Streamlined Filing Compliance Procedures can all change and carry conditions not covered here. Indian rules, including the Section 10(10D) exemption and the post-February 2021 ULIP premium thresholds, are also subject to change. Penalties for failing to file Forms 3520, 3520-A, 8621, FBAR, and Form 8938 are severe, so do not rely on this guide to self-assess. Obtain advice from a qualified cross-border tax professional who handles US-India returns, and a SEBI-registered investment adviser on the India side, before surrendering, making paid-up, or continuing to pay premiums on any Indian market-linked insurance policy.