Tax benefits on retirement, VRS, and retrenchment of salaried persons

[This post elucidates details of tax components as well as tax exemption for earned Leave encashment, Gratuity, commutation of pension, NPS withdrawal, retrenchment compensation, , amount received on voluntary retirement, tax on EPF withdrawal etc.]

Updated: As per amended finance act 2020

Leave encashment under section 10(10AA):

The encashment of unutilized earned leave (read note-1) at the time of retirement of Government employees is fully Exempt u/s 10(10AA).

The encashment of unutilized earned leave at the time of retirement of other employees (not being a Government employee), least of the following shall be exempt from tax u/s 10(10AA):

a) Amount actually received

b) Unutilized earned leave (note-1) × Average monthly salary (note -2 & note-3)

c) 10 months Average Salary (note-2 & note-3)

d) Rs.3, 00,000 (Rupees Three Lakh)

Note-1: The earned leave entitlements cannot exceed 30 days for each year of service rendered to the present employer

Note-2: Average salary means average Salary of last 10 months immediately preceding the retirement

Note-3: Salary means Basic Pay + Dearness Allowance (to the extent it forms part of retirement benefits) + turnover based commission

b) Retrenchment Compensation 10(10B)

Gratuity:

1. Gratuity received by Government Employees (Other than employees of statutory corporations):

Gratuity received by Government Employees (Other than employees of statutory corporations) is fully exempt from tax under section 10(10)(i) of IT Act

• Death -cum-Retirement Gratuity received by other employees who are covered under the Gratuity Act, 1972 (other than Government employee) (Subject to certain conditions):

           Least of following amount is exempt from tax 10(10)(ii) :

          1. (*15/26) × (Last drawn salary) ** × (completed year of service or part thereof in excess of 6 months).

          2. Rs.20, 00,000 (Rupees Twenty Lakh).

         3. Gratuity actually received.

*7 days in case of employee of seasonal establishment.

** Salary = Last drawn salary including DA but excluding any bonus, commission, HRA, overtime and any other allowance, benefits or perquisite

• Death -cum-Retirement Gratuity received by other employees who are not covered under the Gratuity Act, 1972 (other than Government employee) (Subject to certain conditions) 10(10)(iii).

           Least of following amount is exempt from tax:

           1. (Half month’s Average Salary)* × (Completed years of service)

           2. Rs. 20, 00,000 (Rupees Twenty Lakh)

           3. Gratuity actually received.

*Average salary = Average Salary of last 10 months immediately preceding the month of retirement

** Salary = Basic Pay + Dearness Allowance (to the extent it forms part of retirement benefits)+ turnover based commission

There are two types of gratuity payment systems in India viz. Gratuity paid under the Payment of Gratuity Act, 1972 and another category is gratuity paid to others who are not covered under the Payment of Gratuity Act, 1972. In the banks (except SBI), Gratuity is paid to employees and officers under the Gratuity Act, 1972 as well as under the provisions of Bipartite Settlement [for bank officers as per Officers Service Regulation (OSR)] whichever is higher. The Gratuity is paid to employees and officers of SBI is only under the Gratuity Act. For details of, when the gratuity is paid to an employee and how it is calculated, click “calculation“

Retrenchment compensation:

In case of retrenchment compensation received by a workman under the Industrial Dispute Act, 1947(Subject to certain conditions), least of the following shall be exempt from tax:

a) an amount calculated as per section 25F(b) of the Industrial Disputes Act, 1947;[ read Note-2]

b) Rs. 5, 00,000; or

c) Amount actually received

Note-1: Assessee can claim tax relief under Section 89(1).

Note-2: 15 days average pay for each completed year of continuous service or any part thereof in excess of 6 months is to be adopted under section 25F(b) of the Industrial Disputes Act, 1947.

Pension:

1)  Commuted Pension received by an employee Central Government, State Government, Local Authority Employees and Statutory Corporation and Pension received from United Nation Organization by the employee of his family members are fully exempt from tax u/s 10(10A)(i)

2)  Commuted Pension received by other employees who also receive gratuity: 1/3 of the full value of a commuted pension will be exempt from tax u/s.10 (10A) (ii)

3)  Commuted Pension received by other employees who do not receive any gratuity: 1/2 of the full value of a commuted pension will be exempt from tax u/s.10 (10A) (iii)

4)  Family Pension received by the family members of Armed Forces is fully exempted from tax u/s. 10(19)

5)  Family pension received by family members in any other case: 33.33% of Family Pension subject to a maximum of Rs. 15,000 shall be exempt from tax u/s. 57(iia) [this exemption is not available for those who have opted new tax regime for 2020-21]

Voluntary retirement:

In case of Amount received on Voluntary Retirement or Voluntary Separation (Subject to certain conditions, least of the following is exempt from tax u/s. 10(10C):

1) Actual amount received as per the guidelines i.e. least of the following

a) 3 months’ salary for each completed year of services

b) Salary at the time of retirement × No. of months of services left for retirement; or

2) Rs.5, 00,000

Note- :Section 10(10C) applies to an employee who has completed 10 years of service or completed 40 years of age

The assessee is entitled to the exemption under section 10(10C) of the Act and also eligible for rebate under section 89 of the Act in respect of the amount received in excess of Rs.5,00,000 on account of voluntary retirement. Similar view is taken by the Hon’ble Karnataka High Court in the case of CIT v. P. Surendra Prabhu held that the assessee, employee of the respondent bank was not only entitled to the benefit of exemption under section 10(10C) of the Act to the extent prescribed in the provision itself but for any amount over and above the prescribed limit; under the aforesaid provision, the assessee was also entitled to relief under section 89(1) of the Act read with rule 21A.

National Pension System:

Any payment from the National Pension System Trust to an assessee on closure of his account or on his opting out of the pension scheme referred to in section 80CCD, to the extent it does not exceed 60% of the total amount payable to him at the time of such closure or his opting out of the scheme under 10(12A)/10(12B).[Note: Partial withdrawal from the NPS shall be exempt to the extent of 25% of amount of contributions made by the employee].

Provident Fund (PF):

Both the interest earned and money received on superannuation is tax-free. Further, the individual need not offer the same in the return of income as such withdrawal is exempt from tax. If an individual withdraws from EPF before completing 5 years of continuous service, the money withdrawn is treated as taxable income. But, in calculating 5 years of service, tenure with the previous employer is also included. However,  completion of 5 continuous years of service\ if employment is terminated due to employee’s ill health The business of the employer is discontinued or the reasons for withdrawal are beyond the employee’s control such withdrawal is exempt from tax and he need not offer the same in the return of income.

TDS deduction:  If the amount withdrawn is less than Rs.50,000 before completion of 5 continuous years of service, TDS will not be deducted from EPF withdrawn. However, the individual falls in the taxable bracket, he has to offer such EPF withdrawal in his tax return.  If the amount withdrawn is more than Rs.50, 000 before completion of 5 years of continuous service, TDS will be deducted at TDS @ 10% if PAN is furnished; If PAN is not furnished, TDS at the maximum marginal tax rate. No TDS if Form 15G/15H is furnished.

Source: Income tax department

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