The tax exemption limit on leave encashment has been raised from Rs 3 lakh to Rs 25 lakh, benefiting private sector employees, effective April 1, 2023. This amendment, in accordance with the Budget 2023 proposal, provides a substantial boost to the financial well-being of retiring employees in the private sector.
Leave encashment refers to the conversion of accumulated leave into monetary compensation when an employee retires, whether due to superannuation or otherwise. Until recently, non-government (private sector) employees were eligible for a tax exemption of up to Rs 3 lakh on such encashment. However, with the recent amendment, this exemption limit has been raised to Rs 25 lakh.
The enhanced exemption limit is applicable to non-government (private sector) employees who are not covered by the leave encashment rules of the Central or State Governments. This means that employees working in private organizations can now avail themselves the increased exemption limit when they retire. It is important to note that the exemption is applicable regardless of whether the retirement is on superannuation or through other means.
The maximum exemption limit for leave encashment under Section 10(10AA)(ii) of the Income-tax Act, 1961, is now capped at Rs 25 lakh. However, certain factors need to be considered when determining the exemption amount:
Under Section 10(10AA) of the Income Tax Act, 1961, the taxation rules for leave encashment vary depending on the circumstances:
1. While on the payroll or at the time of termination (other than retirement): In such cases, leave encashment is fully taxable for all employees, both in the government and private sector. However, relief under Section 89 of the Income Tax Act is available in such situations.
2. At the time of retirement (by way of superannuation or otherwise):
a. Government Employees: Leave salary received upon retirement is fully exempt from tax.
b. Private Employees: Leave salary received upon retirement is exempt from tax to the extent of the least of the following:
1. ₹25,00,000 (newly amended, previously ₹3 lakh)
2. Actual leave encashment received
3. Average salary of the last 10 months multiplied by 10 months
4. Cash equivalent of unutilized leave (calculated based on unavailed leave in months, considering a maximum of 30 days leave per year) multiplied by the average salary of the last 10 months.
The recent notification by the finance ministry states that the increased exemption limit for leave encashment shall be applicable from April 1, 2023. This means that private sector employees who retire on or after April 1, 2023, can take advantage of the new exemption limits.
According to estimations by the ministry, approximately 50% of personal income taxpayers are salaried employees. Regardless of whether they choose the old or new tax regime, retiring employees will benefit from the higher leave encashment exemption. The ministry further estimates that this tax exemption hike could result in potential tax savings of up to ₹7 lakh for eligible individuals.
Leave encashment received during employment is fully taxable and forms part of "income from salary," but employees can claim tax relief under Section 89 by filing Form 10E online on the income tax e-filing portal. This form allows individuals to provide details about their leave encashment and claim the necessary tax relief.
In conclusion, the leave encashment exemption limit of Rs 25 lakh is a significant step towards providing financial security to retiring private sector employees. With this increased exemption, individuals can now enjoy a higher tax-free amount when they receive leave encashment payments. So, now it's individuals turn to keep efforts in understanding their company's leave policies and the corresponding tax treatment of leave encashment. By leveraging these benefits provided by the Income-tax Act, retiring employees can now maximize their financial gains and ensure a smoother transition in their post-employment life.
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