Quick Answer: Leave encashment received at retirement by government employees is fully exempt from tax. For private sector employees, the tax exemption on leave encashment at retirement/resignation is the minimum of: (1) ₹25 lakh; (2) average salary of last 10 months × leaves encashed; (3) cash equivalent of earned leave based on 30 days per year. Encashment during service is fully taxable.
Leave Encashment Tax — Section 10(10AA) Explained
When an employee retires or leaves a job, any accumulated leave that is encashed may qualify for a tax exemption under Section 10(10AA). Budget 2023 significantly enhanced this limit from ₹3 lakh to ₹25 lakh for non-government employees — a major benefit for long-serving employees.
Exemption Calculation (Private Employees)
Exempt = Least of:
- Actual leave encashment received
- ₹25,00,000 (Budget 2023 limit)
- Last 10 months' average salary
- (Salary per day) × (Leave days, capped at 30 days × years of service)
Frequently Asked Questions
The ₹25 lakh limit is a lifetime limit across all employers. If you received ₹10 lakh exempt leave encashment from your previous employer, only ₹15 lakh more can be exempt from the next employer. You must track cumulative exempt leave encashment across your career.
For leave encashment exemption, "salary" means Basic Salary + Dearness Allowance (to the extent forming part of retirement benefits). Other allowances like HRA, LTA, and special allowances are excluded from the calculation.