Retired in February but leave encashed in April. When is the benefit of exemption applicable?

I have retired under superannuation in February. But my bank has sanctioned and credited leave encashment in the month of April. Whether I will get the benefit of exemption of up to ₹25 lakh in this current financial year or in FY 2023-24?

—Hemant Athalye 

Salary is taxable on a ‘due’ or ‘receipt’ basis, whichever is earlier. As you have retired in February 2024, the leave encashment became due to you in February 2024 itself. While section 10(10AA) of the Income Tax Act, 1961, provides an exemption for ‘payment’ towards leave encashment received, one would need to read the exemption section along with the charging section and, therefore, the exemption to an employee who has retired would be available in the year in which such leave encashment was due to him.

The facts are not clear as to what is meant by sanction of the leave encashment by the employer. However, if the sanction is merely towards the computation and disbursement, the leave encashment became due to you the day you retired and, therefore, the exemption would be available in FY 2023-24 itself and not in FY 2024-25, when you received the leave encashment. Practically, the employer would have also considered such leave encashment along with the exemption in FY 2023-24 itself and would be reflected in your Form 16 for the said year. On the other hand, if contractually the leave encashment is due to you in April 2024, then you may include it in the income and claim exemption for FY 2024-25. Practically, the exemption would be available in the year in which such amount is considered for taxation purposes by your employer.

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Further, you may also note that the exemption for leave encashment on retirement in the case of an employee other than an employee of the state or central Government would be computed as the least of the following:

a) Actual leave encashment received

b) 10 months’ salary (computed on the basis of the salary drawn 10 months before retirement)

c) ₹25 lakh

Moreover, the leave encashment should not exceed 30 days for each year of service rendered by the employee to the employer from where he has retired.

Lastly, leave encashment during the period of service is always taxable and the above exemption applies only in case where the leave encashment is paid on retirement of the employee.

Mahesh Nayak is a chartered accountant at CNK & Associates.

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