Retirement Benefits and Income Tax Liability

By | September 11, 2015

RetirementNow days the practice of taking voluntary retirement is very common. At the time of VRS or retirement, an employee usually receives significantly huge sum of money as retirement benefits. Such benefits are taxable under the head ‘Salaries’ as ‘profits in lieu of Salaries’ as provided in section 17(3), thus it attracts more tax liability. However, in Income Tax Laws some relief in respect of some of them has been provided. The exemption from taxation has been granted u/s 10 of the Income Tax Act, either wholly or partly on retirement benefits. In this article we shall make an attempt to explore those.

A. Gratuity [Sec. 10(10)] – Please refer our article.

B. Commutation Of Pension [Section 10(10a)]

  1. In case of employees of Central & State Govt. Local Authority, Defence Services and Corporation established under Central or State Acts, the entire commuted value of pension is exempt.
  2. In case of any other employee, if the employee receives gratuity, the commuted value of 1/3 of the pension is exempt, otherwise, the commuted value of Y2 of the pension is exempt.
  3. Judges of S.C. & H.C. shall be entitled to exemption of commuted value upto Y2 of the pension (Circular No. 623 dated 6.1.1992).

C. Payment at the time of voluntary retirement [Section 10(10C)]

As per section 10(10C), any compensation received at the time of voluntary retirement or termination of service is exempt from tax, if the following conditions are satisfied:

  • Compensation is received at the time of voluntary retirement or termination (or in the case of an employee of public sector Company, at the time of voluntary separation).
  • Compensation is received by an employee of following undertakings
  1. Public Sector Company
  2. any other company ; or
  3. an authority established under a Central, State or Provincial Act ; or
  4. a local authority ; or
  5. a co-operative society ; or
  6. 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 (3 of 1956) ; or
  7. an Indian Institute of Technology within the meaning of clause (g) of section 3 of the Institutes of Technology Act, 1961 (59 of 1961) ; or
  8. any State Government; or
  9. the Central Government; or
  10. Notified institutes having importance throughout India or in any State or States,
  11. Notified institute of management
  • Compensation is received in accordance with the scheme of voluntary retirement/separation, which is framed in accordance with guidelines prescribed under Rule 2BA of Income-tax Rules, 1962*.

~ Maximum amount of exemption is Rs. 5,00,000/-.

~ Where exemption is allowed to an employee under section 10(10C) for any assessment year, no exemption under this section shall be allowed to him for any other assessment year.

~ With effect from assessment year 2010-11, section 10(10C) has been amended to provide that where any relief has been allowed to an assessee under section 89 for any assessment year in respect of any amount received or receivable on his voluntary retirement or termination of service or voluntary separation, no exemption under section 10(10C) shall be allowed to him in relation to such or any other assessment year.

*Guidelines prescribed under Rule 2BA of Income-tax Rules. 1962

Voluntary retirement scheme should be framed in accordance with the following guidelines:

  1. It should apply to an employee who has completed 10 years of service or completed 40 years of age. This requirement would not be in case of amount received by an employee of a public sector company under the scheme of voluntary separation framed by such public sector company.
  2. It should apply to all employees (by whatever name called) including workers and executives of a company or of an authority or of a co-operative society, as the case may be, excepting directors of a company or of a co-operative society;]
  3. The scheme of voluntary retirement or voluntary separation should be drawn to result in overall reduction in the existing strength of the employees;
  4. The vacancy caused by the voluntary retirement or voluntary separation is not to be filled up;
  5. The retiring employee of a company shall not be employed in another company or concern belonging to the same management
  6. The amount receivable on account of voluntary retirement or voluntary separation of the employee does not exceed the amount equivalent to
    1. 3 month’s salary* for each completed year of service or
    2. Salary at the time of retirement multiplied by the balance months of service left before the date of his retirement

*Salary for this purpose will include basic salary, dearness allowance, if the terms of service so provide and commission based on fixed percentage of turnover achieved by the employee.

 D. Leave Encashment [Section 10(10AA)] – please refer our article

E. Retrenchment Compensation [Sec. 10(10b)]

An amount received as an retrenchment compensation received by a workman under the Industrial Disputes Act, 1947 or any other Act or Rules is exempt subject to following limits:-

  1. Compensation calculated @ fifteen days average pay for every completed year of continuous service or part thereof in excess of 6 months.
  2. The above is further subject to an overall limit of Rs.5,00,000 for retrenchment on or after 1.1.1997 (Notification No. 10969 dated 25.6.99).

 F. Payment From Provident Fund [Sec. 10(11), Sec. 10(12)] – please refer our article.

happy retirement

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