Leave encashment is the cash payout for earned leave you didn’t use, paid at resignation, retirement, or sometimes annually if your company allows carry-forward limits. Government employees get it fully tax-free; everyone else gets a ₹25 lakh lifetime cap with three other conditions layered on top. The calculator below applies the exact Section 10(10AA) formula.
How leave encashment is calculated
Amount = (Basic + DA ÷ 30) × leave days encashed. Same per-day logic as gratuity and notice pay, a flat 30-day month, applied to your Basic + DA (not gross salary, unless your company’s leave policy explicitly says otherwise, check your HR policy document).
The number of days you can encash depends entirely on your company’s leave policy and how many earned leave (EL) days you’ve accumulated and not used, subject to any carry-forward cap (commonly 45, 60, or 90 days depending on the company).
Tax exemption under Section 10(10AA)
Government employees (Central/State): Leave encashment received on retirement or resignation is fully exempt, no cap, no formula, the entire amount is tax-free.
Everyone else (private sector, PSU, autonomous bodies): The exempt amount is the least of these four:
- ₹25,00,000 (raised from ₹3 lakh in Budget 2023, effective for retirements/resignations from 1 April 2023)
- Actual leave encashment received
- 10 months’ average salary (Basic + DA), based on average of the last 10 months before retirement/resignation
- Cash equivalent of leave standing to credit, calculated at 30 days per year of completed service (even if your company’s policy allows more, the tax law caps the exempt calculation at 30 days/year)
Whatever is left after applying the least of these four is added to your income and taxed at your slab rate.
Worked example: ₹40,000 Basic, 90 days encashed
A mid-level employee resigning after 6 years with 90 days of accumulated leave, all under the standard formula (non-government).
- Per-day salary: ₹40,000 ÷ 30 = ₹1,333
- Amount: ₹1,333 × 90 = ₹1,20,000
- Check against ₹25L cap: well under
- Check against 10-month average salary (₹40,000 × 10 = ₹4,00,000): well under
- Check against cash equivalent of 30 days/year × 6 years = 180 days, but actual leave is 90 days, so this cap isn’t binding either
The full ₹1,20,000 is tax-free in this case, since the actual amount is the smallest of the four checks. Tax exposure typically only bites for senior employees with a high Basic and 150+ days of accumulated leave.
The ₹25 lakh cap is cumulative across employers
Like the gratuity exemption, the ₹25 lakh leave encashment exemption is cumulative across your entire career, not per employer. If you’ve already claimed ₹15 lakh tax-free leave encashment from a previous job, only ₹10 lakh of headroom remains for future employers, regardless of how the formula computes for each individually.
Annual leave encashment vs. resignation/retirement encashment
Some companies let employees encash a portion of unused leave every year (common in IT and BFSI). This annual encashment while still employed is not covered by Section 10(10AA) at all, it’s fully taxable as salary income in the year received, since the exemption only applies at the point of leaving service (resignation, retirement, or death). Don’t confuse the two; a lot of employees assume the same tax-free treatment applies year-round, and it doesn’t.
Frequently asked questions
Is leave encashment taxable if I’m laid off, not resigning voluntarily?
Yes, the same Section 10(10AA) rules apply regardless of whether you resigned, retired, or were terminated (layoff/retrenchment), as long as it’s genuinely a cessation of employment with that employer. The formula and cap don’t change based on why you left.
What counts as “Basic + DA” if my company doesn’t pay DA?
Most private-sector employees have zero DA, so this simplifies to just your Basic salary. Don’t include HRA, special allowance, or any variable pay, same restriction as gratuity.
Does unused sick leave or casual leave qualify for encashment?
Only earned leave (EL), sometimes called privilege leave (PL), typically qualifies for encashment under most company policies and under Section 10(10AA). Casual leave (CL) and sick leave (SL) usually lapse unused and aren’t encashable, check your specific leave policy since some companies do allow SL encashment as a matter of policy (though the tax exemption under 10(10AA) technically still applies only if it’s treated as leave encashment on retirement/resignation).
How is leave encashment shown in Form 16?
It’s included in “Salary as per section 17(1)” on your Form 16, with the exempt portion under Section 10(10AA) shown separately in the exemptions section. If your employer’s payroll system computes the exemption wrongly (a common error, especially with the ₹25L cap increase from 2023), you can claim the correct exemption directly in your ITR and it’ll usually trigger a refund.
Was the ₹25 lakh cap always this high?
No. It was ₹3,00,000 from 2002 until Budget 2023, when it was raised to ₹25,00,000 effective 1 April 2023, a more than 8x jump that was overdue given two decades of salary inflation. If your leave encashment was received before 1 April 2023, the old ₹3 lakh cap applies instead.
Sources
- Income Tax Act, 1961: Section 10(10AA)
- Budget 2023 (Finance Act 2023): ₹25 lakh leave encashment exemption limit, effective 1 April 2023
- CBDT Notification on revised leave encashment exemption limit