Navigating Leave Encashment: What Happens During Full and Final Settlement?

Hi Folks,

I'm in the process of making the Leave Policy for our company, and I have a few queries:

1. Is it mandatory to encash leave for employees during their full and final settlement, or is that balance leave adjusted towards the notice period?
2. What happens to the leave balance that remains after the adjustment of the notice period?
3. Is it mandatory to give 5% of the basic pay during the full and final settlement, even if the company is an IT service provider?

I would appreciate advice and help from Rajat and Ajmal on this matter.

Thanks,
Regards,
Anu

Hi Anu,

Leave encashment can be done for only the Earned/Privilege/Annual leave that the company provides to the employee and not on the Sick or casual leave. During full and final settlement, it is mandatory that the leave be encashed.

Balance leave can also be adjusted towards the notice period. The balance leave needs to be given by way of encashment to the employee.

If you are preparing the leave policy, you can state the upper limit of the days that can be carried over. In our company, we provide employees with 18 days of Earned/Privilege/Annual leave every calendar year, and this leave can be accumulated up to 36 days over 2 years. If it is not encashed before completion, then the leave from the first year lapses. During encashment, we do not encash 100% of the leave balance; only up to 70% of 36 days is taken, and the calculation is based on the basic salary of the employee.

It is not mandatory to give 5% of the basic pay at the time of full and final settlement. You can incorporate the terms in the appointment letter issued to the employees, stating that if the stipulated notice period is not served by the employee, deductions may be made from the basic salary.

Hope the above serves your purpose.

Vani

Dear Anuradha,

Encashment of Earned Leave/Privileged leave is mandatory under the Factory Act and rules framed thereunder. If your organization falls outside the purview of the Factories Act, then this becomes discretionary to encash the earned leave balance at the time of termination of the contract of service by either side.

Currently, almost every organization is following the theory of making a payment against the balance of leave at the time of termination of the service contract between the employer and employee.

To promote this practice, even the Indian Income Tax Act has provided an exemption on the amount thus received by an employee at the time of resignation or retirement from the employer. The limit for exemption is 3 lakhs of rupees, and an employee can accumulate the earned leave up to 300 days. Even all government servants are entitled to leave encashment against the earned or privilege leave.

While making a leave policy for your organization, you can take this aspect into consideration.

Earned leave can be adjusted against short notice. But from the ITax point, you have to calculate both values, i.e., the value of leave to be encashed and the amount to be recovered against the shortfall in the notice period. So overall, this leave cannot be adjusted against short notice.

Casual leave, by its nature, cannot be adjusted against short notice; the same is the case for Sick leave.

There is no fixed criteria for encashment. Some organizations pay on basic wages/pay, some on gross monthly salary. Even some of the organizations pay encashment on gross salary while considering a month for 26 days. Again, it is the philosophy of the organization to encash.

Under the Factories Act, a worker is required to be paid on the gross salary basis.

I hope this answers some of your queries.

Regards,

Anil Anand

Hi,

1. It is mandatory to encash leave balance standing to an employee's credit as of the date of his/her last working day. Leave balance cannot be adjusted towards the notice period.

2. Leave encashment is calculated as follows: basic divided by 30 x number of leave balance.
Note: If you adjust leave against the notice period, then the employee will receive all monthly salary components. For example, if an employee has 90 days of leave to his credit and gives one month's notice, the company would end up paying him 2 full months' salary (resulting in a loss to the company).

Raaj

As per the Factories Act, the calculation of Annual Leave Encashment should be based on the Monthly Pay Drawn by the employee during the Preceding Month and should be divided by 26, not 30. The rule is very clear about Earned Leave (EL), but Casual Leave (CL) is confusing. If an employee has not availed their CL during the preceding year and has not encashed it either, what should be done?

Dear All,

Please note that the leave encashment must be based on the gross salary, not the basic salary. It is incorrect to calculate the leave encashment using the basic salary.

Always,
Nirmal Kumar Sahu

Hi Vani,

I read the quote below given by you to Anu. I request you to help me out with a similar issue.

We worked in a dealership where the management had a practice of encashing leaves at the time of full and final settlement. However, the management changed (the Jt. Managing director's sister took over as Director). She suddenly stopped the practice without issuing a notice to the Labour court for non-encashment of leaves for the former employees.

We are around 25-30 employees whose leaves have to be encashed, which range from 30-120 days of earned leaves.

I want to know, as you mentioned, that it is mandatory for leaves to be encashed during final settlement according to the Factories Act and shop & establishments act.

1. What action can we take against this management? We are in the process of sending a letter for non-payment of the earned leaves as it has been a year since we resigned from the organization.

2. How many leaves can be encashed? Many employees have a balance of 120-150 earned leaves as they have been associated with the organization for 10 years or more.

I would appreciate it if you could help us with this matter.

Regards, Chitra

My mail id is chituas2001@gmail.com

Hi Anu,

Leave encashment can only be done for the earned/privilege/annual leave that the company provides to the employee, not for sick or casual leave. During full and final settlement, it is mandatory for the leave to be encashed.

The balance leave can also be adjusted towards the notice period; the balance leave needs to be given by way of encashment to the employee.

If you are preparing the leave policy, you can state the upper limit of the days that can be carried over. In our company, we give employees 18 days of earned/privilege/annual leave every calendar year, and this leave can be accumulated up to 36 days for two years. If it is not encashed before completion, then the leave from the first year is lapsed. At the time of encashment, we do not encash 100% of the leave balance; only up to 70% of 36 days are taken, and the calculation is done based on the basic salary of the employee.

It is not mandatory to give 5% of the basic pay at the time of full and final settlement. You can incorporate terms in the appointment letter issued to the employees stating that in case the stipulated notice period is not served by the employee, deductions could be made from the basic salary.

I hope the above serves your purpose.

Vani

Hi,

Can someone help me? Recently, I received the final settlement from my ex-employer. There is a leave encashment of Rs 18,000 (approx) and also a notice period adjustment of Rs 13,000 (approx). Hence, the amount I received is only Rs 5,000. However, my ex-employer has computed a tax sheet, and in that, he has mentioned an amount of Rs 18,000 towards leave encashment. He mentioned that they can't include the notice period adjustment of Rs 13,000 in the computation sheet (Form 16). Now, I end up paying extra tax for Rs 18,000 since it's declared as income (even though I received only Rs 5,000). Can someone help me with where and how to declare the notice period adjustment of Rs 13,000 while filing returns?

Thank you.

Dear Anuradha,

Leave encashment is applicable only on PL/EL. It can be adjusted against the notice period of the employee who has resigned. Balance leave (after adjusting against the notice period) can be encashed.

Regards,
LK

Hi all,

Sorry to say that I am really confused after going through this discussion. I am new to HR and don't know much. Can anybody suggest the correct answer?

Neha

I would seek a reply from Babulalma.

As per the Factories Act, Annual Leave Encashment Calculation ought to be done on the basis of Monthly Pay Drawn by the employee during the Preceding Month and should be divided by 26, not 30. The rule is very clear about EL, but CL is very confusing. What should be done if the employee has not availed his CL during the preceding year and has not encashed it?

Can you please let me know where it has been mentioned in the Factories Act?

Hello Anil,

I was just going through your post, and it was very informative. However, I am still confused about two points:

1. Can EL(S) be adjusted while serving the notice period?
2. What is the theory of 5% of basic pay? Is it that instead of encashing the remaining leaves, 5% of the basic amount is paid?

It would be great if you could shed some light on these issues.

Thanks and regards,
Ayona

May I ask you:

1. Does the educational institute fall under the Factory Act?
2. Where is it mentioned that the balance leave should be encashed on the last working day and cannot be adjusted towards the notice period?

Manish

Hi,

Leave encashment to be done as per the rules Basic + DA wheather this is under EPF or under IT Act. In the case of establishment covered under the Factories Act, basis will be the Gross Wages and accordingly the calculations may vary.

Some points to be remembered:

1. Leave encashment is exempted to an extent on resignation from the services as per below:
a. Actual amount of leave encashment (Based on last month's Basic + DA/30*Actual Leaves in balance)
b. Rs 300000.00
c. 10 Months average (just preceeding to date of leaving) salary
d. Cash equivalent of the leave salary in respect of the period of earned leave to the credit of the employee at the time of retirement (This has to be taken for the full year basis not part of the year of service will be considered)

2. If Mr. A has left the job after a service of 2 years and 6 month; the encashment will be as below:
Informations:
A. Mr. A's Basic Salary : Rs 15000.00 at the time of leaving (Basic 15000.00 HRA 7500 Conveyance 800.00 total Gross Salary 23300.00)
B. Mr. A's service with the current employer: 2 Years 6 Months
C. Leaves in Credit 45 Days
D. Leaves benefit available: 20 Leaves per year

Encashable amount:

Rs 15000.00/30*45 Days = Rs 22500.00

Tax Benefit (on leaving the service)will be least of below:

1. 22500.00
2. 300000.00
3. 10 Months average Salary (15000*10 Months/10 Months = Rs 15000.00) 15000.00*10 = Rs 150000.00
4. 2 Years (no part of the year considered; in our case 6 months service ignored)*20 Days/30 Days30*23300 = Rs 31067.00

Therefore the amount paid Rs 22500.00 is
A. Fully exempt from tax and
B. Hence shall be considered in tax computation u/s 10(10)(A) and
C. This encashment do not attract the deduction of PF.

Some Points are very important:
1. Basic Salary + DA
2. Averaging of Basic Salary + DA
3. Encashment to staff and implication of income tax

In case of difference of opinion;
Llet us know the sectionwise reference and treatment of the above.

Hi Sandeeptol,

In your case, the treatment done by your employer seems to be correct. Rs 18,000.00 is the encashment of leaves, which is your income and hence should be included in your salary income. Whereas the settlement for the notice pay will not be considered in the computation.

Thank you.

In which clause of the Factories Act is it mentioned that encashment should be done on the gross salary?

Should we divide the Basic/Gross amount by 26 or 30 days?

Hi,

I have a doubt here. Is it mandatory to deduct 4 days of PL for unclaimed LTA during FFS?

Please revert.

Hi all,

If an employee resigns in the middle of the month (specifically on the 15th), we provide them with full and final settlement.

Subsequently, the following month during the payroll process, do we need to include the resigned employee or not? If we do not include this specific employee, their information will not appear in the reports.

Please share your opinions on this matter.

I would be very grateful for your input.

Thanks & regards,
Senthil Kumar M

Kindly note that leave encashment should be counted on Basic + DA if applicable. Please refer to The Factories Act, 1948, Chapter VIII, page 40 for more details.

Thanks,
Ashok

Dear Senthil,

Once an employee resigns in any month on any date and full and final payment has been made, there is no requirement to process payroll. However, you must have an HR package so that you can still access that person in the Management Information System (MIS) as and when required.

Regards,
Ashok

Dear VIKRAM,

It depends on daily working or fixed basis. If you have workmen and there is an agreement, then as per the terms decided. But as per the process, most of the cases will be 30 days count because you get Sundays paid even though you have not worked.

Thanks,
Ashok

Dear Haripriya,

Please don't misguide the people. When we do not know about the subject or matter, there is no such rule that has been seen. If yes, kindly provide support.

Thanks,
Ashok

Dear Nirmal,

If we calculate the leave encashment on Gross Salary, it would result in a significant amount in the Full and Final settlement, potentially leading to a higher attrition rate. Therefore, I believe that using the standard formula for calculating the Full and Final settlement based on Basic Salary is preferable.

(Basic Salary/26) * Leave Balance

Thank you.

Hi Shahida,

I would like to know the calculation for this. An employee left service on 31.07.2010, and he also has 18 earned leaves to his credit and has given one month's notice. Please enlighten me; should I consider the earned leave of this employee from 01.01.2010 to 31.07.2010 or 31.08.2010 (i.e., 10 leaves)? It's urgent; kindly reply.

Regards,
Shahida

Hi, I want help regarding encashment. Can a company make a policy stating that leave balance will not be encashed if there is short notice? I had paid for the short notice period but did not receive the balance leave encashment to my credit at the time of leaving the organization. My organization is based out of Mumbai. Please provide me with legal guidance.

Regards,
Viral Shah

Calculating Paid Leave Balance for Resignation

If a person joined on 1-4-2008 in our company, they are entitled to 21 days of paid leave (PL). The person is resigning from 1-11-2010, and I need to calculate the remaining PL balance as of the resignation date. How do I calculate the balance of PL? I also need to arrange for the full and final settlement. (6 days of leave were taken in 2009).

Please assist.

Thanks,

Regards,
Manish

Request for Case Laws on Leave Encashment and Notice Pay

Can anyone refer to leading case laws on leave encashment and notice pay in the case of premature termination of a contract? Thank you.

Leave Encashment Policy Changes

I work in the manufacturing industry. I need suggestions on CL & SL encashment at the time of separation or resignation from the services. We used to encash EL, CL & SL unutilized balances at the time of full and final settlement. Recently, our company has changed the leave policy and decided to encash only EL or PL through full and final settlement; CL and SL balances will lapse upon leaving. We have informed all existing employees about this change through a circular.

My question is: will this change be applicable to all employees from the circular date, or only to those employees who have joined after 01/08/2016? For example, if the circular date is 01/08/2016 and an employee who joined on 01/01/2015 leaves the organization on 25/08/2016, will his leaves be encashed as per the new policy or the old policy?

Regards,
Sagar

In my opinion, if the policy has been circulated to all employees, it will be effective for all employees. If a policy is implemented for certain employees joining after a particular date, the policy will keep coming back to HR repeatedly.

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I have corrected the spelling and grammar errors in the text and ensured proper paragraph formatting with a single line break between paragraphs. The meaning and tone of the message have been preserved.

Encashment of Leave: Casual and Sick Leave

Encashment of leave, namely Casual Leave, is considered wrongdoing as Casual Leave is not earned by any employed person. It is meant to offset exigencies faced by the individual who avails it and is never a legitimate claim. Casual Leave, as the title suggests, is for unforeseen and unplanned occurrences to meet an event.

Similarly, Sick Leave is intended to cover the period of sickness and should be supported by an appropriate Medical Certificate issued by a Registered Medical Practitioner. It should not be accumulated to be availed in a planned manner.

The precedence or past practice was a result of some arbitrary decision taken in a hurry, giving rise to unhelpful or restrictive work practices.

It is the employer's (management's) prerogative to take corrective action promptly and be prepared to address dissension. Repeating mistakes does not contribute to effective management, healthy employee relations, or sustainability. Please let us know if your establishment or organization faces other challenges as we are ready to help.

For further clarity, you may contact:

Kritarth Team, Pune Mobile Advisory, Bengaluru Service Center [Email Removed For Privacy Reasons] / [Email Removed For Privacy Reasons] [Phone Number Removed For Privacy Reasons]

Regards, Kritarth Team

Leave Policy Concerns After Resignation

My colleague and I are in the same situation as we have both resigned from our managerial roles as administrative staff in a company governed by the Factories Act. I have served for 15 years and 8 months, with a gross salary of $54,070. Additionally, I have 32 days of unused PL leave and, as of January, I have accumulated 92 days of leave.

However, the HR department has informed me that upon resignation, all unused leave will be forfeited, without the option of being waived off or encashed. I am required to either serve the notice period or pay the full gross salary in lieu of the remaining leave days. I had served for 36 days post my resignation, and the company has withheld my salary for this period. Furthermore, they are requesting payment for an additional 18 days, amounting to around $80,000, which is owed to me apart from the leave days.

I am uncertain about the next steps to take in this situation as the HR department keeps referring to the company's policy verbally.

Thank you.

Hi Arun,

Your company is a factory or Shops & Commercial Estt. Though you haven't completed one year of service, you will be eligible for proportionate earned leave/paid leave as per the applicable law. If you have any unused leave in your leave account when you leave after serving the notice period, you are entitled to leave encashment.