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Leave Encashment: Tax Exemption, Calculation & Examples

Khush Trivedi , Last updated: 01 March 2024  
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Leave Encashment Taxability

Background 

In general sense we can say that leave that you can freely avail while performing your services. Normally there are few numbers of paid leaves are available to the employees while their work span on monthly/yearly basis.

However, it is not necessary that an individual employee utilizes all the leave he is entitled to in a year. In fact, most employers allow the employees an option of carrying forward such unutilized paid leaves.

So that's how the concept of leave encashment comes in a picture.

What Is Leave Encashment

Employees can accumulate the un-utilize paid leaves till their retirement or resignation from the company & which compels the employer to compensate the unutilized paid leave of the employees. This concept is better known as leave encashment.

 

Taxability

Leave encashment received by employees is taxable in two ways 

  • Received at the time of his job then such amount will be fully taxable & forms part of " Income from Salary "( However Assesse can get tax relief under section 89 of income tax act by filling form 10E ) 
  • Leave encashment received at the time of retirement or resignation,
Leave encashment received by  Taxability
State and Central Government employees Fully tax-exempt
Non-government employees

Partly exempt and partly taxable.

The exemption is based on the calculation specified in Section 10(10AA)(ii).

Legal heir of a deceased employee

Fully tax-exempt.

Leave encashment amount received by the Legal heir of a deceased employee is fully tax-exempt in the hands of the legal heirs.

Exemption specified us Section 10(10AA)(ii)

Exemption will be least of the following

  1. Notified By Government i.e. Rs. 25,00,000
  2. Actual Encashment Amount Received 
  3. Average Salary** of Last 10 months
  4. Salary per day*unutilized leave (considering maximum 30 days leave per year) for every year of completed service

Note: **Salary For this purpose includes Basic salary + Dearness Allowance + Turnover Commission 

Illustration

Lets take an example 

Calculate taxable Leave encashment keeping the below details in mind.

Mr.X (Non-Gov Emp) retiring after 10 Years 

Entitled Pay leaves per year from his employer is 40 days i.e. 400 Days

Utilized Leaves: 200 days (Un-utilized: 200 days)

Basic Salary + DA: Rs. 30,000 Per Month (Rs. 1,000 per day)

Encashment received: Rs. 2,00,000 (Rs. 1,000*200)

 

Solution

Particulars Amount (in Rs)
Leave encashment received

2,00,000  (200 days* Rs 1,000)

Less: Exempt 2,00,000
Least of the following:  
1. Amount notified by the Government 25,00,000
2. Actual leave encashment  2,00,000
3. Average salary for 10 months = Rs 30,000 * 10 months 3,00,000
4. Rs 1,000 * (30 days * 10 completed years of service minus 200 days of utilised leave) 1,00,000
Leave encashment taxable as ‘income from salary 1,00,000
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Published by

Khush Trivedi
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Category Income Tax   Report

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