Leave encashment salary [sec. 10(10aa)]

Cases

Treatment

A. During service tenure

Fully taxable [Sec. 17(1)(va)]

B. At the time of retirement by

employee of:

• Government

Exempted [Sec.10(10AA)(i) ]

• Other Employer

Minimum of the following shall be exempted from tax u/s 10(10AA)(ii):

• Actual amount received;
• Rs.300000;
• 10 months average salary
• Cash equivalent of 30 days average salary for every completed year of service as reduced by actual leave availed or encashed during the tenure of service.

Note: The period of 30 days is the maximum ceiling. If employer allows leave for less than 30 days p.a. then such lesser days shall be considered.

• Average salary means Basic + DA (forming part of retirement benefit) + Commission (as a fixed percentage on turnover) being last 10 months average salary from the date of retirement .
• While calculating completed year of service, ignore any fraction of the year.
• While claiming the statutory amount (i.e. Rs.300000) any deduction claimed earlier as leave encashment shall be reduced from Rs.300000
• Assessee can claim Relief u/s 89(1).

• Leave salary paid to the legal heir: Leave salary paid to the legal heir of deceased employee is not taxable as salary. The Act is silent on treatment of leave encashment received after death of employee. However, on following grounds, it can be concluded that leave salary received by a legal heir shall not be taxable in the hands of the recipient  

a) A lump sum payment made gratuitously to widow or legal heir of employee, who dies while in service, by way of  compensation or otherwise is not taxable under the head 'Salaries'. [Circular No.573, Dated 21.08.1990]

b) Unutilised deposit under the capital gains deposit account scheme shall not be taxable in the hands of legal heir.  [Circular No.743 dated 6/5/1996 ]

c) Legal representative is not liable for payment of tax on income that has not accrued to the deceased till his death. 

d) Leave salary paid to the legal heir of deceased employee is not taxable as salary. [Circulars Letter No. F.35/1/65-IT(B), dated 5/11/19 65 ]. Further, leave salary by a legal heir of the Government employee who died in harness is not taxable in the hands of the recipient [Circulars No.309, dated 3/7/1981 ]. 

Taxpoint: If leave salary becomes due before the death of the assessee (no matter when and by whom received), it shall be taxable in the hands of employee. Whereas if such salary becomes due after the death of assessee, it shall not be taxable (even in the hands of legal heir of the assessee)