Leave encashment is the amount of money received in exchange for a period of leave not availed by an employee.

Leaves available to employees in the organised sector are usually divided into three categories – sick, casual and earned.

Of these, casual and sick leaves not availed during a year usually lapse while earned leaves are carried forward.

Depending upon their policy, employers allow carrying earned leave forward only to a certain limit.

Beyond this limit, earned leaves can also lapse. However, some employers also offer the facility of encashing the earned leaves during the continuation of service or leaving the job due to termination of service, resignation, or retirement.

The money earned through encashment is also liable to be taxed. Here’s everything you need to know about the income tax implication of leave encashment.

Tax obligation in case of encashment of leaves in continuation of employment:

Exemption on encashment of leaves is only available when an employee leaves the company. Hence, when an employee encashes their leaves to continue their services, the money earned is treated as a salary.

The amount is liable to be fully taxable in your hands, and the employer will deduct the applicable tax.

Tax obligation in case of encashment of leaves on resignation or retirement:

Government Employees

The amount earned by encashing leaves by a government employee is fully exempt without any upper monetary limit or the number of days leaves are encashed.

The exemption is only available to government employees and not employees working in government companies or undertakings.

So, the exemption rules may not apply to employees in government banks, insurance companies, and power generation companies.

Employees working in the private sector or government-owned companies have a cap of three lakh rupees, up to which the leaves encashed are exempted at the time of leaving the company.

There’s also a cap on the number of leaves that can be exempted. An employee can claim an exception for only 15 days of accumulated leaves for each year of services up to a maximum leave of ten months.