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Leave encashment meaning
In India, leave encashment refers to the process of converting accumulated and unused paid leave days into monetary compensation. When an employee does not utilize their entitled leave days, they have the option to encash or convert those unused leave days into cash, which is paid out by their employer.
Read: Monetary benefits for employees
Leave encashment is typically granted upon certain conditions, such as retirement, resignation, or the termination of employment. The payment for leave encashment is calculated based on the employee's salary and the number of accumulated and unutilized leave days.
Leave encashment calculation
The calculation of leave encashment for private employees in India can vary depending on the company's policies and practices. However, I can provide you with an example calculation based on a common approach used by some organizations. Let's consider the following scenario:
Employee details:
Basic Salary: ₹50,000 per month
Total accumulated leave days: 30 days
Company policy: Leave encashment is calculated at a daily wage rate based on basic salary.
Step 1: Determine the daily wage rate
Daily wage rate = (Basic Salary / Total working days in a month)
Assuming there are 30 working days in a month:
Daily wage rate = (₹50,000 / 30) = ₹1,666.67
Step 2: Calculate leave encashment amount
Leave encashment amount = (Daily wage rate x Number of unutilized leave days)
In this example, if the employee has 30 unutilized leave days:
Leave encashment amount = (₹1,666.67 x 30) = ₹50,000
So, in this case, the leave encashment amount for the employee would be ₹50,000.
Leave encashment rules
Capping on leave encashment
Companies have the right to put a cap on the maximum number of paid leaves that will be encashed per employee per year.
Notice period and unused paid leaves
If an employee has unused paid leaves accumulated, they can adjust it against their notice period. However, it is at the discretion of the company. Employees and HR managers along with the reporting manager can negotiate this.
Read: Buy out notice period
Leave carry forward policy
When an employees doesn’t use all the earned leaves, they can carry forward the unused leaves to the next year. Companies can design leave carry forward policy themselves and put a cap on how many leaves can be carried forward.
- This policy comes helpful to employees if are planning for a vacation or wedding next year and want to use all the saved up leaves.
- Can be used if the company has a leave encashment policy at retirement.
Unlimited leave policy
In the context of leave encashment with an unlimited leave policy, the concept of leave encashment may work differently compared to traditional leave policies. Since there is no specific limit on the number of leave days, there may not be a provision for leave encashment based on unused leave days.
Tax on leave encashment
It's important to note that the tax treatment and exemptions for leave encashment in India vary based on factors such as the type of employee (government or non-government), the reason for encashment (retirement or during employment), and the specific provisions of the Income Tax Act.
Read more about it in the below section.
Leave encashment tax exemption
For private company employees, leave encashment received at the time of retirement is partially exempt under Section 10(10AA) of the Income Tax Act, subject to certain limits and conditions.
Leave encashment received during the course of employment is fully taxable.
Leave encashment tax exemption calculation
For non-government employees, the least of the following is exempt from tax:
- 3 lakhs is tax exempted
- Actual leave encashment received
- 10 months' average salary
- Cash equivalent of unutilized earned leave (as per prescribed limit of 30 days per year of service)
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