📌 Table of Contents
- What is Leave Encashment?
- Types of Leave Encashment
- Eligibility Criteria
- Taxability of Leave Encashment
- Tax Exemption Rules for Leave Encashment
- Leave Encashment Exemption Limits
- How to Calculate Leave Encashment?
- Leave Encashment in Case of Retirement, Resignation or Death
- TDS Applicability and Reporting
- Reporting Leave Encashment in ITR
- Real-Life Example: Tax Computation
- How to Save Tax on Leave Encashment?
- Conclusion
- FAQs
🔹 1. What is Leave Encashment?
Leave encashment refers to the amount received by an employee in exchange for unutilized leave days during service or at the time of resignation, retirement, or termination.
It is either:
- Paid during employment (partial encashment),
- Or at the end of service (retirement, resignation, etc.)
🔹 2. Types of Leave Encashment
| Type | Description | Taxability Status |
|---|---|---|
| During Service | Encashment of leave while in employment | Fully Taxable |
| On Retirement/Resignation/Termination | Final settlement on separation | Partially/fully exempt |
| On Death (to legal heir) | Paid to nominee/legal heir of deceased | Fully Exempt |
🔹 3. Eligibility Criteria
- Must be a salaried employee (Govt. or private sector).
- Should have accumulated leave balance as per company policy.
- Leave encashment is generally allowed on earned leaves only.
🔹 4. Taxability of Leave Encashment
| Employee Category | Tax Treatment |
|---|---|
| Central/State Government Employees | Fully Exempt under Section 10(10AA)(i) |
| Private Sector Employees | Partially Exempt under Section 10(10AA)(ii) |
| Legal Heirs (on employee’s death) | Fully Exempt |
🔹 5. Tax Exemption Rules for Leave Encashment
As per Section 10(10AA) of the Income Tax Act:
- Government employees: 100% of the amount received is exempt.
- Non-government employees: The least of the following is exempt:
- ₹3,00,000 (lifetime exemption limit)
- Actual amount received
- 10 months’ average salary
- Leave due × average monthly salary
📊 6. Leave Encashment Exemption Limits
| Component | Explanation |
|---|---|
| Average Salary | Average of salary (Basic + DA forming part of retirement benefits) for last 10 months |
| Maximum Exemption Limit | ₹3,00,000 (cumulative for lifetime) |
| Number of Months of Leave | Max 30 days leave/year × total service years (as per employer policy) |
🧮 7. How to Calculate Leave Encashment?
Step-by-Step Formula:
Least of the following is exempt for private sector:
- ₹3,00,000
- Actual Leave Encashment Received
- 10 × Average Monthly Salary
- Leave Balance (in months) × Average Monthly Salary
Example:
| Particulars | Amount |
|---|---|
| Average Monthly Salary (Basic+DA) | ₹60,000 |
| Leave Balance | 240 days = 8 months |
| Actual Leave Encashment Received | ₹5,00,000 |
| Exemption Eligible (8 × ₹60,000) | ₹4,80,000 |
| 10 × Salary | ₹6,00,000 |
| Max Limit | ₹3,00,000 |
✅ Tax-exempt = ₹3,00,000, Taxable = ₹2,00,000
🔹 8. Leave Encashment on Resignation, Retirement, or Death
| Event Type | Exemption Status |
|---|---|
| Retirement | Partial exemption (private sector) |
| Resignation | Partial exemption (private sector) |
| Death (Legal heir) | Fully exempt from tax |
| During employment | Fully taxable |
🔹 9. TDS Applicability and Reporting
- TDS is deducted under Section 192 by the employer.
- It is reported in Form 16 and appears in AIS/Form 26AS.
- Separate mention in salary structure as “Leave Encashment”.
🔹 10. Reporting Leave Encashment in ITR
| ITR Section | Details to be Entered |
|---|---|
| Salary Income | Include taxable portion of leave encashment |
| Exempt Income | Mention exempt portion under ‘Exempt Income – Others’ |
| Relief u/s 89(1) | Available for arrears or excess tax burden |
| Required Form | File Form 10E if claiming relief |
🔎 11. Real-Life Example: Tax Computation
| Particular | Amount (₹) |
|---|---|
| Total Leave Encashment Received | 4,50,000 |
| Taxable Portion (After Exemption) | 1,50,000 |
| Tax Rate | 20% |
| TDS Deducted by Employer | 30,000 |
💡 You can verify this in your Form 16 and ITR summary.
💡 12. How to Save Tax on Leave Encashment?
✅ Government employees get full exemption
✅ Private sector employees should:
- Ensure leave balance & average salary data is accurate
- Keep track of ₹3 lakh lifetime limit
- Claim Section 89(1) relief for past year leave encashment
- File Form 10E for relief
- Maintain supporting documents: payslips, leave ledger, etc.
🧾 13. Conclusion
Leave encashment is a valuable post-service benefit, especially upon retirement. However, private-sector employees must plan wisely to maximize tax exemption and avoid errors during ITR filing.
Always ensure correct reporting, use available reliefs, and retain documentary proof.
📌 Don’t forget to cross-check leave encashment data in your:
❓ 14. FAQs
- • What is leave encashment?
It’s the payout received for unutilized earned leaves during or after employment. - • Is leave encashment taxable?
Yes, but it can be partially or fully exempt based on employee category. - • What is the exemption limit for private sector employees?
Maximum ₹3,00,000 during a lifetime under Section 10(10AA). - • Is leave encashment exempt for government employees?
Yes, 100% exemption is available. - • Is TDS deducted on leave encashment?
Yes, TDS is deducted u/s 192 at the time of payment. - • Can I claim relief if encashment is for past service?
Yes, file Form 10E to claim Section 89(1) relief. - • Is encashment received on death taxable?
No, it is fully exempt for the legal heir. - • Can leave encashment be received during employment?
Yes, but it is fully taxable. - • Where to show leave encashment in ITR?
In salary section and exempt section for non-taxable portion. - • What documents are required for tax relief claim?
Form 10E, employer certificate, payslips, leave balance record.