Leave encasement

The query regarding the taxability of leave encashment received by a legal heir upon the death of an employee is a common point of confusion. Based on income tax laws and judicial precedents in India, here is the clarification:

Is the amount taxable?

No. Leave encashment received by the legal heir or nominee of a deceased employee is fully exempt from income tax.

Key Points for Your Reply:

• Legal Basis: The Central Board of Direct Taxes (CBDT) has clarified, notably through Circular No. 309 dated July 3, 1981, that leave salary paid to legal heirs is in the nature of an ex-gratia payment and is not taxable as salary.

• Exemption: Since the amount is not taxable, it should not be included in the total income of the legal heir.

• Responding to the Notice: If your client has received an intimation under Section 143(1)(a) of the Income Tax Act, it is likely an automated adjustment because the department’s system may have flagged the income as potentially taxable. You should file a response to the notice stating that the amount is exempt.

  • Evidence: Provide a copy of the death certificate and proof that the amount was paid as "leave encashment" due to the employee's death (e.g., a letter or settlement statement from the employer).

  • Argument: Clearly mention that as per the aforementioned CBDT circulars, such payments are treated as ex-gratia and are non-taxable, and therefore, no tax should be levied on this specific receipt.

Summary

Leave encashment received by the legal heir of a deceased employee is not taxable. You can successfully contest the 143(1)(a) notice by providing the necessary documentation (death certificate and employer's payment proof) to demonstrate that the amount is an exempt ex-gratia payment.