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I am associated with a manpower service provider. Some client companies are paying statutory bonuses and annual leave encashment on a monthly basis to avoid future complications of non-compliance, etc. One of the clients is insisting on the payment of ESI & PF contributions on these two components as well. This results in less take-home pay for the employee. Please advise whether ESI & PF contributions should be made on the advance payment of statutory bonuses or leave encashment.

Thank you,
S N Sitaram

From India, Hyderabad
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Both practices are avoidable. However, companies often do this to make the pay appear larger to the employee.

Considerations for PF and ESIC Applicability

PF and ESIC become applicable on these payments, though some lawyers argue otherwise.

Consider the following:

1. Any amount that is paid every month and to every worker will mostly be considered as salary.
2. The new ruling on PF states that all payments, except for HRA and OT, are considered basic pay. Only allowances that are selective (not given to all) and intended to defray a cost of working will be excluded. Therefore, your payment probably falls under the definition of salary for PF.
3. The Bonus Act intended for the bonus to be a lump sum, one-time payment per year for festival purposes or special requirements. By paying the money every month, it is no longer a bonus. (Some lawyers suggest that if you specifically show it as an advance against a bonus in the payslip, then it might be acceptable.)
4. For leave salary paid every month, you are providing evidence that you are not granting paid leave as required by the Factory Act. If the matter goes into dispute, you are very likely to be asked to pay again.

In any case, ESIC rules state you need to pay on everything, so there is little dispute there.

From India, Mumbai
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Dear Colleague,

PF Act and ESI Act: Treatment of Bonus and Leave Encashment

The PF Act and ESI Act deal slightly differently with the components of Bonus and Leave Encashment.

1. As far as the PF Act is concerned, "basic wages" is defined as all emoluments earned by an employee while on duty or on leave or on holidays with wages in either case, in accordance with the terms of the contract of employment, and which are paid or payable in cash to him, but does not include:

(i) the cash value of any food concession;

(ii) any dearness allowance (that is to say, all cash payments by whatever name called paid to an employee on account of a rise in the cost of living), house-rent allowance, overtime allowance, bonus commission, or any other similar allowance payable to the employee in respect of his employment or of work done in such employment;

(iii) any presents made by the employer.

2. Earned leaves encashed are not liable for Provident Fund deductions. This is because earned leaves that are encashed do not constitute a part of 'basic wages' under Section 2(b) of the Employees' Provident Fund and Miscellaneous Provisions Act, 1952.

3. Supreme Court Judgment on Surya Roshni Case

After the latest Supreme Court Judgment on the Surya Roshni case, dated 28th February 2019, the contribution shall be calculated on the basis of monthly pay containing the following components actually drawn during the whole month whether paid on a daily, weekly, fortnightly, or monthly basis:

- Basic wages
- Dearness Allowances
- Retaining Allowances
- Conveyance Allowances
- Other Allowance
- Special Allowance
- Leave Travel Allowances
- Fixed cash Allowance (Management allowance, educational Allowance, Medical Allowance, Telephone, Food Allowance, etc.)
- Petrol Reimbursement (without bills and without supporting documentation/data to substantiate the reimbursement is for official purposes)
- City Compensatory Allowance or any other allowance paid as a fixed component, uniformly and universally having no direct nexus to the outcome of an employee's normal work.

These components are excluded while calculating the EPF:

- HRA allowance (House rent allowance)
- Attendance allowance
- Night shift allowance
- Washing allowance
- Relocation allowance
- Overtime allowance
- Canteen allowance
- Various Incentives provided for a particular employee
- Bonus or Commissions payable to a particular Employee

Hence, both Leave Encashment paid one time in a year based on actual balance leave and Bonus paid annually are not liable for PF deduction.

4. Employees State Insurance Act, 1948

Section 2 (22) of the ESI Act defines "wages" as all remuneration paid or payable in cash to an employee if the terms of the contract of employment, express or implied, were fulfilled and includes any payment to an employee in respect of any period of authorized leave, lock-out, strike which is not illegal or layoff and other additional remuneration, if any, paid at intervals not exceeding two months, but does not include:

(a) any contribution paid by the employer to any pension fund or provident fund, or under this Act;

(b) any travelling allowance or the value of any travelling concession;

(c) any sum paid to the person employed to defray special expenses entailed on him by the nature of his employment; or

(d) any gratuity payable on discharge.

The following wage components are taken into account for computation of wages for payment of contribution:

a) Basic Pay/Wages/Salary;

b) D.A/HRA/CCA/Overtime/officiating allowance/Night shift allowance/efficiency allowance/Heat, Gas, Dust allowance/Education allowance/Food & Tea allowance/Overtime wages (but not to be taken into account for determining the coverage).

c) Wages/salary/pay for weekly off and public holidays;

d) Commission paid to sales staff;

e) Subsistence allowance paid to an employee during the period of suspension;

f) Attendance Bonus or incentive or ex gratia in lieu of Attendance Bonus or production incentive;

g) Regular Honorarium or salary or remuneration paid to a Director;

h) Collection Bhatta paid to running staff. Production incentive, Bonus other than statutory bonus, night shift. Heat, Gas & Dust Allowance, Meal/Food Allowance.

i) Actual payments made towards leave salary, lay off compensation, or wages for strike period.

j) Any other remuneration paid or payable in cash to an employee if the terms of the contract of employment, expressed or implied, were fulfilled.

The above are only indicative.

5. Any leave encashment paid falls under ESI Deduction as it is indicated in the ESI Manual of ESIC as: "Actual payments made towards leave salary." Hence, my suggestion is to check with the ESI Director for more clarity to be more cautious on this subject as later on it should not backfire.

6. As far as Bonus paid annually, which is not connected or linked to any production/attendance or not connected to incentive but paid as per statutory provisions of the Payment of Bonus Act 1965, is usually exempted from ESI deduction. (But Attendance Bonus or incentive or ex gratia in lieu of Attendance Bonus or production incentive are subject to ESI as per ESIC Manual).

Add: As we all know, the Hon'ble Supreme Court has passed an Order recently (ESIC vs. Texmo Industries (Madras) dated 08 March 2021) stating that conveyance allowance or traveling allowance does not fall under the definition of ESI wages. This has been affirmed as a reported judgment by the Apex Court.

However, Bonus paid Monthly is liable for ESI deduction. Some bonus working accumulates the production for each month and also attendance of each month, Productivity of each month and paid annually which needs to be covered for ESI Deduction.

Hence, examine carefully the exact nature of such payments of your clients and then take a call.

From India, Chennai
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