Direct & Indirect Taxes, Tax Ready Reckoner, Tax Management, Tax Act. & Rules, Tax Planning & Tax Savings.

Direct & Indirect Taxes, Tax Ready Reckoner, Tax Management, Tax Act. & Rules, Tax Planning & Tax Savings.

Tax Treatment of ‘Retirement Benefits’ Income to be included in Gross Salary – for computing ‘Salaries’ Income

Retirement Benefits Incomes includes ….

  1. Gratuity
  2. Pension
  3. Leave Encashment
  4. Retrenchment Compensation
  5. Compensation received on Voluntary Retirement
Tax Treatment of ‘Retirement Benefits’ Income to  be included in Gross Salary - for computing ‘Salaries’ Income
Tax Treatment of ‘Retirement Benefits’ Income to be included in Gross Salary – for computing ‘Salaries’ Income

1.   Treatment of ‘Gratuity’ – for computing Salary Income.

Gratuity is a payment made by the employer to an employee in appreciation of the past services  rendered by the employee. Gratuity can either be received by:

(a)           the employee himself at the time of his retirement; or

(b)          the legal heir on the event of the death of the employee.

Gratuity received by an employee on his retirement is taxable under the head “Salary” whereas  gratuity received by the legal heir of the deceased employee shall be taxable under the head “Income  from other sources”. However, in both the above cases, according to section 10(10) gratuity is exempt  upto a certain limit. Therefore, in case gratuity is received by employee, salary would include only that  part of the gratuity which is not exempt under section 10(10).

Exemption of Gratuity under section 10(10)

Government  Employees &  Employees of Local  Authority Employees covered under  Gratuity Act   Any other Employee
  Fully Exempt Minimum of the following 3 limits:

(1) Actual gratuity received, or

(2) 15 days salary for every completed  year, or part thereof exceeding six  months 7 days salary for each  season in case of employee in  seasonal establishment; or

(3) ₹20,00,000

Meaning of Salary: 

(i) Basic salary plus dearness  allowance. 

(ii) Last drawn salary. Average salary  for preceding 3 months in case of  piece rates employees 

(iii) No. of days in a month to be taken  as 26

Minimum of the following 3 limits:

(1) Actual gratuity received

(2) Half months average salary of  each completed year of service.

(3) ₹20,00,000

Meaning of Salary: 

(i) Basic Salary plus D.A. to the  extent the terms of employment so  provide Commission, if fixed  percentage of turnover. 

(ii) Average salary of last 10 months  preceding the month in which event  occurs. 

(iii) Only completed year of service is  to be taken.

 

Notes :

(i)            Where an assessee receives gratuity and part of it is taxable because it is not fully exempt under  section 10(10), the employee can claim relief under section 89 on account of such gratuity. 

(ii)           Where an employee had received gratuity in any earlier year(s) and had claimed exemptions under  section 10(10) in respect of the gratuity received earlier also, he will still be entitled to this  exemption but the limit which at present is ₹20,00,000 shall be reduced by the amount of  exemption(s) availed in the earlier year(s). There will be no change in the other two limits. 

(iii)          If gratuity is received from more than one employer in the same previous year, by an employee, the  limit of ₹20,00,000 would apply to the aggregate of gratuity received from one or more employers. 

(iv)          Gratuity is exempt, if the relationship of employer and employee exists between the payer and the  payee. If such relationship does not exist, the exemption shall not be available, e.g., gratuity payable  by the LIC of India to its Insurance Agents does not qualify for exemption as agents are not  employees of the Corporation. 

(v)           The words “completed service” occurring in section 10(10) should be interpreted to mean an  employee’s total service under different employers including the employer other than the one from  whose service he retired, for the purpose of calculation of period of years of his completed service,  provided he was not paid gratuity by the former employer.

(vi)          Any gratuity paid to an employee, while he continues to remain in service with the same employer is  taxable under the head “Salaries” because gratuity is exempt only on retirement or on his becoming  incapacitated or on termination of his employment or death of the employee. In this case, however  the assessee can claim relief under section 89

(vii)        The CBDT vide its instruction in F. No. 194/0/73-IT, dated 19.6.1973 has clarified that the  expression “termination of employment” would cover an employee who has resigned from the  service.

2.   Treatment of ‘Pension’ – for computing Salary Income.

Pension is a payment made by the employer after the retirement/death of the employee as a  reward for past service.

Pension is normally paid as a periodical payment on monthly basis but certain employers may  also allow an employee to forgo a portion of the pension and receive a lump sum amount by  surrendering such portion of pension. This is known as commutation of pension. The pension may be  fully or partly commuted i.e. in lieu of the pension, a lump sum payment is made to the employee. The  treatment of these two kinds of pension is as under:

  • Uncommuted pension : i.e. the periodical pension: It is fully taxable in the hands of all employees, whether government or non-government.
  • Commuted pension: At the time of retirement, you may choose to receive a certain percentage of your pension in advance. Such pension received in advance is called commuted pension. For example, at the age of 60 years, you decide to receive 10% of your monthly pension in advance for the next 10 years.

Exemption of Commuted Pension u/s 10(10A)

Govt. Employees, Employees of Local  Authorities and Employees of Statutory  Corporations Any other Employee
Fully Exempt (a) If gratuity is not received Commuted value of half (1/2) of  pension which he is normally entitled to receive.

(b) If gratuity is also received Commuted value of 1/3rd  of pension which he is normally entitled to receive.

 

Note :

Pension received by the employee is taxable under the head “Salaries”. However, the family pension received  by the legal heirs after the death of the employee is taxable in the hands of the legal heir under the head  “Income from other sources” because in this case there is no relationship of employer and employee.  Treatment of family pension is discussed in detail under the head “Income from other sources”.  Illustration 4.5: A retired on 15.4.2019 from B Company Ltd. He was entitled

3.   Treatment of ‘Leave Salary’ or ‘Leave Encashment’ – for computing Salary Income.

Leave encashment refers to an amount of money received in exchange for a period of leave not availed by an employee. Encashment of accumulated leave can be availed by an employee at the time of retirement, during the continuation of service or at the time of leaving the job.

Any leave encashed during service is fully taxable and forms part of ‘income from Salary’. However, a relief under Section 89 can be claimed.

Exemption of Leave Encashment at the time of Retirement u/s 10(10AA)

Govt. employee i.e. Central  and State Govt. employees Any other employee
Fully Exempt Minimum of the following four limits:

(i) Leave encashment actually received; or

(ii) 10 months average salary; or

(iii) Cash equivalent of unavailed leave calculated on the basis of  maximum 30 days leave for every year of actual service rendered;

or

(iv) ₹3,00,000

Meaning of salary  :

(i) Basic salary plus D.A. to the extent the terms of employment so  provide plus Commission, if fixed percentage of turnover. 

(ii) Average salary of last 10 months immediately proceeding the date  of retirement.

 

Note :

1.            If the employee had received leave encashment in any one or more earlier previous year(s) also and had  availed of the exemption in respect of such amount, then the limit given in clause (d), specified above,  shall be reduced by the amount of exemption(s) availed earlier. 

2.            Where the leave encashment is received by the employee from more than one employer in the same  previous year, the specified limit given in clause (d) above would apply to the aggregate of leave  encashment received from one or more employers. 

3.            Leave salary received by the family of a government servant, who died in harness, is not taxable in the  hands of the recipient. 

4.            Leave salary paid to legal heirs of a deceased employee in respect of privilege leave standing to the credit  of such employee at the time of his/her death is an ex-gratia payment on compassionate grounds in the  nature of gifts. Thus the payment is not in the nature of salary.

5.            The assessee can claim relief from tax under section 89 in respect of leave Encashment.

4.   [Section 10(10B)]- Treatment of ‘Retrenchment Compensation’  – for computing Salary Income.

Retrenchment is the termination of an employee by an employer for reasons other than a punishment meted out by disciplinary action. Employees terminated in such a manner are financially compensated by the employer. This kind of compensation is known as retrenchment compensation.

Any compensation received by a workman at the time of his retrenchment, under the Industrial  Disputes Act, 1947 or under:

(a)           any other Act or rules or any order or notification issued there under; or

(b)          any standing order; or

(c)           any award, contract of service or otherwise,

Exemption of Retrenchment Compensation u/s 10(10B)

shall be exempt to the extent of minimum of the following limits:

(i)            Actual amount received;

(ii)           15 days’ average pay for every completed year of service or part thereof in excess of 6  months;

(iii)          Amount specified by the Central Government, i.e. ₹ 5,00,000.

Compensation received in excess of the aforesaid limit is taxable and would, therefore, form part  of Gross Salary. However, the assessee shall be eligible for relief under section 89 read with rule 21A.

Note :

1.            Where retirement compensation is received by a workman in accordance with any scheme which the  Central Government having regard to the need for extending special protection to the workman in the  undertaking to which such scheme applies, has approved in this behalf, the entire amount of compensation  so received shall be exempt under section 10(10B). 

2.            Where retrenchment compensation received by a workman exceeds the amount which qualifies for  exemption under the new clause, he will be entitled to relief under section 89 read with rule 21A of the  Income-tax Rules, in respect of such excess.

5.   [Section 10(10C)]- Treatment of ‘Compensation Received on Voluntary Retirement’  -for computing Salary income

Under the Voluntary Retirement scheme, the retiree employee receives lump-sum amount in respect of his balance period of service. Such amount are in the nature of advance Salary.

The compensation received or receivable by the employee of the following, on voluntary  retirement, under the golden hand shake scheme, is exempt under section 10(10C):

(i)            a public sector company; or

(ii)           any other company; or

(iii)          an authority established under a Central, State or Provincial Act; or

(iv)          a local authority; or

(v)           a co-operative society; or

(vi)          a University established or incorporated by or under a Central, State or Provincial Act and an  institution declared to be a University under section 3 of the University Grants Commission  Act, 1956; or

(vii)        an Indian Institute of Technology within the meaning of clause (g) of section 3 of the  Institutes of Technology Act, 1961; or

(viii)       such institute of management as the Central Government may, by notification in the Official  Gazette, specify in this behalf;

(ix)          State Government;

(x)           Central Government;

(xi)             Institutions having importance throughout India or in any State or States as may be notified.

Exemption of Compensation Received on Voluntary Retirement u/s 10(10C)

Exemption shall be available, subject to the following conditions:

(a)           The compensation is received only at the time of voluntary retirement or termination of his  services in accordance with any scheme or schemes of voluntary retirement or in the case of  public sector company, a scheme of voluntary separation. Even if the compensation is  received in instalments, the exemption shall be allowed.

(b)          Further, the scheme of the said companies or authorities or societies or universities or the  institutes referred to in clauses (vii) and (viii) above, as the case may be, governing the  payment of such amount, are framed in accordance with such guidelines (including inter alia  criteria of economic viability) as may be prescribed. In the case of public sector companies, if  there is a scheme of voluntary separation, it shall also be according to the said prescribed  guidelines.

Quantum of Exemption:

The amount of exemption is …

(i)            the actual amount of compensation received

or

(ii)           ₹5,00,000,

whichever is less.

Note :

1.            The exemption is available to an employee only once and if it has been availed for an assessment year it shall  not be allowed to him for any other assessment year. 

2.            The assessee shall not be eligible for relief under section 89 in case he has claimed exemption under section  10(10C). On the other hand, if he claims relief under section 89, he cannot claim exemption under section  10(10C).

6.   Contribution by the employer to recognised provident fund

Any contribution by the employer to the recognised provident fund in excess of 12% of the salary  of the employee, is taxable in the hands of the employee and hence included in the gross salary of the  employee.

7.   Interest credited to recognised provident fund

Any interest credited to employees’ recognised provident fund in excess of 9.5% per annum is  taxable in the hands of the employee and hence included in the gross salary of the employee.

8.   Amount comprised in the transferred balance

The aggregate of all sum that are comprised in the transferred balance of unrecognised provident  fund, when it is converted into recognised provident fund, is also taxable in the hands of the employee  and hence included in gross salary.

See also  Time Limit, Form & Fees for Filing an Appeal
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