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Explore the increased tax exemption on leave encashment for non-government employees in India. Learn about the new limit, eligibility, and implications on retirement benefits.

In maintaining with the Budget declaration, the finance ministry increased the tax exemption ceiling for leave encashment upon retirement for non-government salaried personnel from ₹3 lakh to ₹ 25 lakh, as per notification as on May 24th, 2023.

Although this new limit was notified on May 24th, the ministry has said that the new exemption limit shall be applicable retrospectively w.e.f. 1st April, 2023. Meaning that any private sector employee who retired/ superannuated on 1st April, 2023 will be able to take this benefit of new exemption limits.

According to the estimations by the ministry, the revised tax approach, 50% of personal income taxpayers are salaried, and whether they choose the new or old tax regime today, they will benefit from the larger leave encashment exemption at the time of retirement.

The former tax exemption on leave encashment for non-government employees was ₹3 lakh, which was set in 2002, when the highest basic wage in the government was ₹30,000 per month.

Let us now understand what leave encashment effectively means and the various nuances associated with it:

What is Leave Encashment?

The practise of getting remuneration in return for unused paid leave days, such as vacation or sick leave, which an employee is entitled to by their company is known as leave encashment. In other words, instead of taking time off from work, an employee can choose to be compensated for the number of unutilized leave days.

Exemption applicable for leave encashment:

As per section 10(10AA) of the Income Tax Act, 1961:

>> There is no exemption if an employee encashes his or her leaves while still on the payroll or at the time of termination (other than retirement). As a result, the total amount received will be FULLY TAXABLE for all employees i.e. government and private both. It should be noted that in such a circumstance, relief under section 89 is available.

>>  Leave encashment received at the time of your retirement, whether by way of superannuation or otherwise:

1. Government employees: Leave salary received at the time of retirement is fully exempt from tax.

2. Private employees: Leave salary received at the time of retirement is exempt from tax to the extent of the least of the following:

₹ 25,00,000 (newly amended, earlier ₹3 lakh)

Actual Leave encashment received

Average salary of last 10 months * 10 months

Cash equivalent of not availed leave [unutilized leave in months (considering       maximum 30 days leave per year) * Average salary of last 10 months]

The leave encashment option is available for privileged/earned leaves only. A privilege or earned leave is an annual entitlement for employees who work in a company for a year.

In India, the customary practice is to offer 18 earned leaves to employees, but the exact number of privileged leaves can vary from one organization to another.

In case of the death of the employee while still being in service, if the deceased employee’s legal heirs receive the amount of leave encashment, it will be fully exempt from tax.

Conclusion:

Now that this benefit is there in the way of greater leave encashment exemption limit of ₹25 lakh in case of retiring non-government employees, companies will restructure their emoluments structure in order to suitably embed this benefit, so that its employees can opt for more tax savings when they retire.

As per various press reports, the Revenue Secretary has apprised that this tax exemption hike would effectively translate into potential savings of ₹7 lakh in taxes that would have been payable before this amendment.

Source- CBDT Raises Cash Equivalent Limit for Leave Salary in Income Tax Act

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3 Comments

  1. Deepak Varma says:

    I am retired from MNC bank on 31st December 2023 but while making payment of Leave encashment bank has deducted tds @ 30% and when I am sharing this latest notification increasing the limit to Rs. 25 lacs bank is neither reverting nor making payment of this TDS amount. Please advise what option I have to claim this amount

    1. Sanjib Kumar Mondal says:

      The exemption of leave encashment is available to employees if the person retires or superannuates. Also available if an employee resigns.

      The ‘otherwise’ part includes the other cases of employee retirements/separations like – Voluntary resignation, Layoffs, separation by mutual agreement, phased retirement, mandatory retirement and constructive discharge.

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