Leave Encashment: Meaning, Taxability and Exemption

LEAVE ENCASHMENT

 

What is Leave Encashment?

Every salaried person, as per labor law, is entitled to a minimum number of paid leave every year. 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 employees an option of carrying forward such unutilized paid leaves.

This would invariably leave the employee with an accumulated unutilized leave balance at the time of retirement or resignation from the company, as the case may be. This compels the employer to compensate the unutilized paid leave of the employees. This concept is better known as leave encashment.

What are the types of leaves?

The different types of leaves are mentioned in the leave policy of a company. The leave policies differ from company to company. Here are the types of leaves generally available for employees:

  • Casual leave: Casual leaves are available for 7 to 10 days. Employees may avail of these leaves for personal reasons. Encashment of this leave varies from one company to another.
  • Earned leave or privilege: An employee can avail of earned leaves with prior notice to the authority. These leaves become eligible for encashment after a specific period. This policy varies from one organization to another.
  • Medical leaves: If employees cannot perform their duties towards the organization due to health conditions, they must inform the employer of the leaves. The maximum limit of the number of medical leaves available differs from one firm to another.
  • Holiday leaves: Holiday leaves are granted by employees, and no salary is deducted for these leaves. The maximum number of holiday leaves differs from one company to another.
  • Maternity leaves: Maternity leaves are only available for female employees and can range from 12 to 26 weeks during pregnancy. An employee can ask for an extension, but no payment shall be made for that period. However, these leaves are not available for encashment.
  • Sabbaticals: Employees can take leaves for upskilling and expand their knowledge. They can enroll for a course, and for that period of time, the employer will reimburse those leaves.

 

How is the Tax Treatment of Leave Encashment done?

The tax treatment of leave encashment depends on when is it availed by the employee, during employment, at retirement or termination otherwise and the nature of the employer, central or state government or non-government.

Leave encashment tax treatment can be summarized as follows:

1. Received during the course of employment – Where leave encashment is received during the employment then the same shall be taxed in the hands of the employee under the head Salary. However, the benefit of Section 89 can be availed by filing Form 10E.

2. Received at the time of retirement from Central or State Government – Leave encashment received from Central or State Government is exempt from tax u/s 10(10AA)(ii).

3. Received at the time of retirement from an employer other than Central or State Government – Leave encashment received from an employer other than Central or State Government is exempt to the extent lowest of the following as per section 10(10AA)(ii):

4. Limit specified by Central Government by notification in Official Gazette, specify in this behalf having regard to the limit applicable in this behalf to employees of that Government, currently the same is ₹3,00,000

5. Payment for the period of earned leave at his credit at the time of retirement whether on superannuation, calculated on basis of 10 month’s average salary and where earned leave does not exceed 30 days for each year of service.

6. Actual leave encashment received

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