Leave Encashment Definition
Leave encashment refers to the monetary compensation an employee receives from an organization annually in lieu of using paid leaves that were not utilized. Legally, each employee who is salaried is allocated a specific quantity of paid leaves by their employer.
Not many employees know that their unused leaves can generate additional income. Through leave encashment, every working individual is eligible to receive reimbursement for the accrued but unused leave balance.
If you are an HR manager, you may frequently receive several queries about the encashment of unused leaves and how it works. So, you must know everything about this concept.
Let’s explore:
- Understanding Leave Encashment Meaning
- Types of Leaves
- Leave Encashment Calculation
- Tax of Leave Encashment
Understanding Leave Encashment Meaning
Leave encashment refers to the monetary compensation an employee is granted by their employer in exchange for unused leaves.
As per this policy, it is the employer’s duty to settle the employee’s dues for their services or to reflect the adjustment in the employee’s leave quota for the subsequent calendar year.
The leave encashment of an employee is incorporated in the F&F executed by the company.
Certain employers typically provide reimbursement for leaves taken, while others make adjustments the following year. Nevertheless, in accordance with the Factories Act of 1948, any outstanding leaves and bonuses must be repaid by the 7th or 10th of the month subsequent to the date of resignation.
Types of Leaves
Here are some common types of leaves:
Medical Leave:
Medical absences are critical in addressing matters pertaining to one’s health. Generally, employees are expected to furnish medical certificates as justification for their absences.
Privilege leave:
It is accumulated by employees because of their long service with the organization. They can be availed upon providing the employer with advance notice.
Casual Leave:
Casual leaves are granted in response to personal emergencies or for the purpose of adhering to personal matters.
Holiday Leave:
Employers provide these leaves to their employees without deducting any amount from their pay. These are frequently granted on designated days off, such as public or national holidays.
Maternity Leave:
This type of leave is granted solely to female personnel in the course of their pregnancy or childbirth.
Paternity Leave:
It is an exclusive leave type granted to male personnel who experience the milestone of fatherhood. In India, however, access is restricted to government employees only.
Sabbaticals:
These leaves are authorized time off for personnel to develop their expertise and competencies. Employers may reimburse employees for the absences taken during this time if they enrol in a course or pursue opportunities for skill development.
Leave Encashment Calculation
Let’s understand the calculation of leave encashment on retirement with an example!
Consider Mr. Aman to have retired following two decades of employment service. His monthly basic pay and dearness allowance amounted to Rs. 60,000 when he retired. (20 days of paid leave per year) were granted to Aman by his private company. At the time of his retirement, he possessed an additional 200 days of unused paid leave, of which he utilized only 200.
For the uninitiated, the leave encashment formula is as follows:
Encashed amount = Basic salary per day X Number of unused earned leaves
The encashed amount in the case of Aman would be:
Amount paid = (60,000 minus 30) x 200, or 2,000 x 200, or Rs. 4,00,000.
Aman is eligible to receive a leave encashment of Rs. 4 Lakhs.
Aman’s encashment amount is only partially exempt from tax under the computations outlined in Section 10(10AA), given that he is a non-government employee.
Tax of Leave Encashment
During the Employment Period
Any employee requesting a leave encashment for unused paid leave during employment is subject to taxation as it is part of their salary.
The employee is eligible for tax relief under Section 89 in this situation. The employee may be eligible for tax relief on the amount received via the leave encashment procedure, as per Section 89.
Employees who wish to receive tax relief for leave encashment must complete Form 10E. After completion and submission via the e-portal of the income tax department, this form is accessible.
After Retirement & Resignation
When an employee announces his or her retirement or resignation, the company is eligible to encash their accumulated paid leave.
It is important to note that:
- Employees who have previously been employed by a central or state government organization are eligible to entirely claim and be exempt from tax on their paid leave encashments.
- If an employee passes away prior to the encashment of their leave, their legal successors are entitled to receive the entire leave encashment on their behalf. They will not be required to pay income tax on the amount received.
Voila, we have covered everything about leave encashment.
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