Leave encashment payout

Calculating leave encashment amount

Leave encashment is calculated on the basis of three factors

1. Number of days of leave encashment - this information flows in from EazeWork HRMS - Leave module if it is integrated or manually updated in Payroll. In case of Full and Final it can be manually updated by Payroll Manager

2. Heads of salary to be included in leave encashment - this can be selected in Deductions and Encashment grid from payroll company setup - selection should be done in the column Leave Encashment

3. The number of days in a month for the purpose of calculating the leave encashment amount is taken the number of actual days in the month in the last employment month.

Example

Number of days of Leave encashment = 12

Heads of salary included in Leave Encashment
- Basic : 15,000
- HRA : 7,500

Leave encashment being paid for separation in June 2022

Number of actual days in month = 30

Leave Encashment = 12 x (15000 + 7500) / 30 = 9,000

Note
1. Leave encashment amount will be only based on the salary of the month in which leave encashment is paid out. If there is a back dated salary increment being processed in the month then there would be arrears being paid, leave encashment is not paid on the arrears
2. If the salary for the month in which encashment has been paid is increased or decreased subsequently then the encashment amount is not changed
3. Leave encashment paid during payroll will be taxable - refer article on Payroll process - step 2, for more details on payment of leave encashment during payroll

Tax treatment of Leave Encashment paid during Full and Final

Leave encashment which is paid to employee will be tax free as per Section 10 (10AA) of income tax rules. Leave encashment is tax free up to minimum of the following

- actual amount received during full and final

- up to INR 25 lakhs for retiring or resigning employees, this includes the leave encashment amount received at previous employers

- 10 month x "Average Salary of 10 months" (if employee works for less then 10 months then only the salary for the full months worked)

- cash equivalent of leave calculated on a maximum of 30 days’ leave per year of completed service, based on unutilized leave. Unutilized leave is calculated based on the leaves which have been encashed during Full and Final

As per law leave encashment in case of resignation, retirement, management initiated separation is tax free as per above mentioned rules. In case of death leave encashment is fully tax free in hands of the nominees. In case of inter company transfer any amount paid in full and final is taxable. System gives the option to setup which of the types of leave encashment should be taxable or taxfree.

Example

Suppose

- daily wage for the purpose of leave encashment = INR 2,000
- taxfree leave encashment received at previous employers = INR 216,000 (captured from previous employer declaration)

Date of joining = 11/May/2021
Last Working Day = 15/June/202

Closing balance of encashable leaves
Casual leave = 15
Earn leave = 72

Leave encashment inputted during full and final
Casual leave = 0
Earn leave = 72

Years of service completed = 4 + (0.68 + 0.53)/12 = 4.1
Maximum limit of encashable leaves = 4.1 x 30 = 123
Cash equivalent = Min (123, 87) x 2000 = 174,000
10 month's wages = 30 x 10 x 2000 = 600,000
Actual leave encashment to be paid at current employer during full and final = 144,000

Exempted leave encashment amount = Min ( 144000, 174000, 2500000 - 216000, 600000) = 144000

Statutory Deductions on Leave Encashment

You can deduct share for statutory compliance like ESI, PF and PT on Leave encashment payment also by selecting these head from Deduction and encashment grid. These selection are to be done on the row which is shown as "Leave encashment".