Leave Encashment
Leave encashment denotes an amount of money obtained in exchange for a period of leave not availed by an employee. Encashment of acquired leave can be taken by an employee at the period of retirement. It is done during the maintenance of service or at the time of resigning the job. The leave encashment scheme differs from company to company. Some companies pay for the non-availed leaves in the next curriculum year. Some let the workers carry forward the excess leaves in a year to the subsequent year. And the company gives for the non-availed leaves at the period of leaving the job. The ITR Online Apply procedure of the amount accepted towards leave encashment depends on the nature of employment. This includes government or private, in-service, and time off, or at the period of retirement.
Leave Encashment - Income Tax Exemption & Calculation
Leave encashment is taxable as per the Income Tax Act 1961. However, there are certain exemptions available to employees under certain conditions. Let's understand the income tax exemption and calculation of leave encashment.
Income Tax Exemption for Leave Encashment:
- Government Employees: Leave encashment received by government employees at retirement or resignation is fully exempt from income tax.
- Non-Government Employees: For non-government employees, the exemption on leave encashment is the least of the following:
- The actual amount received as leave encashment
- The cash equivalent of the leave balance standing to the employee's credit at the time of retirement or leaving the organisation
- 3,00,000 (as per the latest amendment)
Calculation of Leave Encashment
The calculation of leave encashment is based on the employee's basic salary and the number of days of leave being encashed. Here's a formula to calculate the leave encashment amount:
Leave Encashment Amount = (Basic Salary + Dearness Allowance)/30 x Number of Leave Days
Checklist Requirements of Leave Encashment
- Every salaried individual as per employment law is allowed to a minimum number of paid leave every year.
- An individual worker doesn't need to utilise all the leave he is entitled to avail in a year.
- Most companies provide the employees with the option of carrying forward such unused paid leaves.
- This would regularly leave the employee with an aggregated unused leave balance at the time of resignation or retirement from the company as the case may be.
- Additionally, this enforces the company to repay the unutilised paid leave of the staff.
How to Tax Leave Encashment?
Both private and government employees are allowed several types of leave such as sick leave, casual leave, earned leave, and privileged leave during their course of the profession. While some of these leaves can be brought forward to the next year, others cannot. Employees can also choose for the encashment of these leaves if they didn't avail them.
However, the number of leaves that is availed and encashed is chosen by the company while the amount earned is defined by the tax associations and whether the leave is encashed through the course of work or at the time of retirement. The taxation is again reliant on whether a person is a non-government or government employee.
Leave encashment during employment
If an employee chooses for encashment of leaves on his/her course of work, the whole amount would be payable under the head “Income from salary”. However, at the time of registering for returns, the exemption is provided on a certain amount.
Leave encashment at the period of retirement
At the period of retirement, the staff is allowed to accept exceptions under Section 10(10AA). Still, the amount of exemption is distinctive for non-government and government employees. While leave encashment is completely tax-free for government employees at the time of retirement, it is partly excused from tax in the state of non-government workers.
The least of the following is released
- Exact leave encashment obtained
- The average monthly pay of the last 10 months
- The highest amount defined by the government i.e. Rs. 3,00,000
- Cash equivalent of made leaves (to the highest of 30 days) for every year of service made.
The balance amount earned would be chargeable as per the Income-tax slab rates. Below are the details to be kept in memory concerning the taxation of leave encashment
- Salary, that includes basic salary, dearness allowance and work, received as a fixed rate of the annual turnover, is recognised for taxation.
- The normal salary of 10 months applies to the salary earned in the last 10 months before retirement.
- If the staff has encashed leaves in any of the past years and availed exemption for it, the limit of Rs. 3,00,000 would be decreased by the number of exemptions demanded earlier.
- In case of resignation by the employee, the tax applicable would be similar to that for retirement.
- In the situation of the death of the worker or employee, the leave encashment would be sustained by his/her legal heir or candidate. The result would be released from taxes for both non-government and government employees.
What Are the Types of Leaves?
Casual Leave
This is the most commonly used leave by employees. The duration of casual leave may vary from organisation to organisation but typically ranges from 7 to 10 days. The specific policy regarding casual leave is available with the employer. The employee must inform the employer about their casual leave and the duration and date of joining back. If this is accepted, the leave will be eligible for cash encashment.
Privilege Leave
Employees are granted privileged leave when they request it in advance, and the leave is sanctioned. It becomes eligible for encashment after a specific period, although the policy for privilege leave encashment may vary from one organisation to another.
Medical Leave
Employees can avail of medical leave if they cannot work due to health conditions. In order to do so, they must inform the employer about the pending leave. Once sanctioned, medical leaves become eligible for leave encashment. The number of allowed leaves may differ from one organisation to another. However, long-term medical leaves do not fall under the cash leave encashment window.
Sabbaticals
Employers may also provide sabbaticals to employees to enhance their skills and knowledge. These leaves can be utilised to undertake various courses. They are paid leaves, and the organisation reimburses the employee. Sabbaticals are also considered for leave encashment.
Holiday Leaves
Holiday leaves are also paid, and no deduction is made from the employee's salary. These leaves are eligible for leave encashment.
Maternity Leave
Maternity leave is available to all pregnant female employees during their employment. The duration of maternity leave may range from 12 weeks to 26 weeks of pregnancy. This period can be extended, but there is no payment for the extended period. The maternity leave policy may vary across organisations and is not considered for encashment.
Leave Encashment Calculation
Leave encashment is the process of paying employees for the unused leaves they have accumulated during their tenure with an organisation. The calculation of leave encashment depends on several factors, including the employee's leave balance, their basic salary, and the organisation's leave policy.
Here's a general formula for calculating leave encashment:
Leave encashment = (Basic Salary / Total Working Days) x Number of Unused Leave Days
In this formula, "Basic Salary" refers to the employee's basic salary, excluding any allowances or bonuses. "Total Working Days" refers to the total number of working days in a year, usually 240 days in India. "Number of Unused Leave Days" refers to the days the employee has not taken as leave and wishes to encash.
For example, an employee has a basic salary of ₹50,000 per month and 20 days of unused leave. If the organisation has a policy of 240 working days in a year, the calculation would be as follows:
Leave Encashment = (50,000 / 240) x 20 Leave Encashment = ₹10,416.67
Therefore, the employee would be entitled to a leave encashment of ₹10,416.67. However, it's essential to note that the actual calculation may vary depending on the organisation's leave policy and other factors.
Why Vakilsearch?
Vakilsearch is India’s largest professional platform of lawyers, chartered accountants, and company secretaries-with years of experience behind. We execute legal work for over 1000 companies and LLPs every month, by leveraging our tech capabilities, and the expertise of our team of legal professionals.
9.1 Customer Score
We make your interaction with the government as smooth as possible by doing all the paperwork for you. We will also give you absolute clarity on the process to set realistic expectations.
300-Strong Team
With a team of over 300 experienced business advisors and legal professionals, you are just a phone call away from the best in legal services.
Access To Experts
We provide access to reliable professionals and coordinate with them to fulfil all your legal requirements. You can also track the progress on our online platform, at all times.
Realistic Expectations
By handling all the paperwork, we ensure a seamless interactive process with the government. We provide clarity on the incorporation process to set realistic expectations.
