A salaried employee would have access to various types of paid leave. These could be casual leave, sick leave, general leave, or earned leave. Some of these leaves can be carried forward to the following years, according to the employer’s rules. There is also the possibility of encashing some of these leaves. This process is known as leave encashment.
What is Leave Encashment?
Leave encashment meaning, compensation or payment made in return for unused leaves. Employees can encash their accumulated leave at any moment during their employment while retiring or continuing to work, while leaving the organization, or as per the organization’s policy. Private organizations mostly depend on the employer, as some organizations reimburse employees for unused leaves in the next calendar year. On the other hand, some employers allow employees to carry over their unused vacation time from one year to the next. At the time of leaving the job, the company pays for any unused paid leaves.
Different Types of Employee Leaves
Here are some of the various types of employee leaves
Casual Leave
This is the kind of leave that is most commonly available and can be taken for a maximum period of seven days at a stretch. However, it will be based on the guidelines set by the employer.
Before taking casual leave, the employee generally needs to inform the employer of the plan to take such leave and the number of days of casual leave to be taken. Casual leaves can be considered for leave encashment if they are allowed to be carried forward according to the company’s policy.
Privilege Leave
The employee needs to inform the employer beforehand to avail of this leave. This leave is sanctioned by the employer, and the employee is paid during the period of this leave. If the employee does not avail of this leave in a year, it can be accumulated and encashed later.
However, every organisation has its own set of rules for leave and leave encashment.
Medical Leave
Employees use this leave when they are unwell and unable to work under regular settings. Because this is an emergency leave, the employee is not required to provide previous notice to the employer while taking this leave.
The quantum of medical absence provided to employees varies per organisation; these leaves are compensated.
Maternity Leave
This leave is given to pregnant female employees during their employment period. This is paid leave, which can range from 12 weeks to 26 weeks.
Sabbatical Leave
This leave is provided to employees who wish to broaden their expertise by taking various appropriate institutional courses. They can participate in any specialised training or workshop related to their line of employment, as well as enroll in long-term courses at universities.
Quarantine Leave
If an infectious disease occurs in an employee’s family or community, the employee may request quarantine leave. Granting this leave may protect other employees from getting infected with the illness.
This form of leave is not considered for leave encashment.
Paternity Leave
This leave is especially given to employees who have become fathers. In India, only government employees are eligible for paternity leave benefits. The parent employee may be allowed 15 days of leave before or following the birth of a child.
What is the process of Leave Encashment?
Salaried government and private sector employees get nearly equal work benefits regarding their pay scale, tax deductions, and leaves. The employee is subjected to pay income tax if their annual income exceeds the limit as advised by the income tax department. The employer deducts some amount from the employee’s salary account and deposits that amount in the provident fund (PF) account. The provident funds are accessible for employees throughout their employment and after retirement.
The employer also offers employees incentives and allowances like travel, food, and accommodation during their employment period. The organization provides insurance policies for employees to claim during health emergencies and use the mature amount after retirement. However, an employee can carry forward their leaves if not used in the year and can later ask for encashment on behalf of the leaves untaken. This process is known as leave encashment, and every employee can get its benefits.
Tax on Leave Encashment
a) During the Period of Employment
Any employee who wishes to encash leaves during the employment period is liable to pay tax, as such, a payment becomes part of the salary. However, the employee can seek tax relief under Section 89.
According to Section 89, the employee can claim tax relief for the amount received through the leave encashment process.
b) Leave Encashment After Retirement
Employees can encash their unused leaves after retirement or even resignation. However, the conditions for this vary depending on the organisation. Ensure that you read and understand these conditions set out in your employment contract well in time to avoid disappointment.
Section 10(10AA) of the Income Tax Act, 1961, provides for the tax treatment of leave encashment received by an employee. The taxability of leave encashment depends on various factors, such as whether the employee is a government or non-government employee and whether the leave encashment is received during service or at the time of retirement or resignation.
Provisions of Section 10(10AA)
a) Government Employees
Leave encashment received by government employees at the time of retirement (including on superannuation or otherwise) is fully exempt from tax.
b) Non-Government Employees
Leave encashment received by non-government employees at the time of retirement or otherwise is exempt from tax to the extent of the least of the following:
- Actual leave encashment received.
- 10 months average salary (calculated based on the average salary drawn during the 10 months immediately preceding the retirement or resignation).
- Cash equivalent of the leave due at the time of retirement or resignation (calculated based on the leave balance and the average salary).
- Rs 3,00,000 (the specified limit).
FAQs
When is Leave Encashment received during employment taxable?
If an employee receives leave encashment during employment, it is fully taxable and added to the salary income for that financial year. There are no exemptions available for leave encashment received while still employed.
What is the tax exemption limit for Leave Encashment?
For private sector employees, the maximum exemption limit for leave encashment is ₹3,00,000 under Section 10(10AA) of the Income Tax Act. Any amount above this limit is taxable as part of the employee’s income.