Tax exemption on Leave Encashment

CBDT (Central Board of Direct Taxes) vide its notification S.O. 2276(E) dated the 24th May, 2023 has increased the maximum amount receivable by its employees as cash equivalent of leave salary (leave encashment) in respect of the period of earned leave at their credit at the time of their retirement, whether superannuation or otherwise to Rs. 25,00,000 (twenty-five lakhs rupees only) and the same comes into force with effect from the 1st day of April, 2023

Meaning of leave encashment :- Under the labour laws, a salaried person is entitled a minimum paid leave in every year , if the employees unutilised these leave in that case employer compensate the same with payment this is called leave encashment

Provision of leave encashment under Income tax act 1961

Section 10(10AA) of income tax act contain the following provision on leave encashment

1. any payment received by an employee of the Central Government or a State Government as the cash equivalent of the leave salary in respect of the period of earned leave at his credit at the time of his retirement whether on superannuation or otherwise ;
2. any payment of the nature referred to in sub-clause (i) received by an employee, other than an employee of the Central Government or a State Government, in respect of so much of the period of earned leave at his credit at the time of his retirement whether on superannuation or otherwise as does not exceed ten months, calculated on the basis of the average salary drawn by the employee during the period of ten months immediately preceding his retirement whether on superannuation or otherwise, subject to such limit as the Central Government may, by notification in the Official Gazette, specify in this behalf having regard to the limit applicable in this behalf to the employees of that Government :

Provided that where any such payments are received by an employee from more than one employer in the same previous year, the aggregate amount exempt from income-tax under this sub-clause shall not exceed the limit so specified :

Provided further that where any such payment or payments was or were received in any one or more earlier previous years also and the whole or any part of the amount of such payment or payments was or were not included in the total income of the assessee of such previous year or years, the amount exempt from income-tax under this sub-clause shall not exceed the limit so specified, as reduced by the amount or, as the case may be, the aggregate amount not included in the total income of any such previous year or years.

Explanation —For the purposes of sub-clause (ii),—
the entitlement to earned leave of an employee shall not exceed thirty days for every year of actual service rendered by him as an employee of the employer from whose service he has retired

So leave encashment is taxable as well exempt as explained below

1. Received during service- It is fully taxable whether Government employee or private employee
2. After retirement or leaving the organization
   1. Exempt for the Government employee
   2. Exempt for the legal heirs of deceased employees
   3. For private employee least of the following is exempt
      1. Received amount of leave salary
      2. Maximum limit 25,00,000 (earlier it was 3,00,000 and changed to 25,00,000 vide notification no S.O. 2276(E) dated the 24th May, 2023 )
      3. cash equivalent to unavailed leave 30 days for each completed year of service
      4. 10 months salary on the basis of average salary of last ten months immediately preceding the retirement

Salary means- Basic + DA(if according to terms) + commission (if given on percentage of turnover.

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