Leave Encashment Tax Exemption Explained (Section 10(10AA))

What "leave encashment" means here

Most employers let you accumulate unused paid leave and either carry it forward or convert ("encash") it into a cash payout — typically when you leave the job, sometimes while still employed. This page covers the tax treatment of that payout; see leave encashment during service vs at retirement/resignation for why the taxable amount depends heavily on which of those two situations you're in.

The exemption formula — least of four amounts

For non-government employees, the exempt amount is whichever of these four is smallest:

1. The actual leave encashment amount received
2. 10 months × your average monthly salary (Basic + Dearness Allowance only, over the last 10 months)
3. The cash equivalent of unused leave standing to your credit, capped at 30 days for each completed year of service — even if your employer's own policy lets you accumulate more
4. ₹25,00,000, reduced by any leave-encashment exemption you've already claimed under this same section in any earlier year

Whatever is left over above that smallest figure is added to your taxable salary income for the year and taxed at your normal slab rate.

Worked example

A private-sector employee retires after 15 years, with 150 days of unused leave standing to credit, average monthly salary (Basic + DA) of ₹90,000 over the last 10 months, and an actual leave encashment payout of ₹15,00,000. No leave encashment exemption claimed in any earlier year.

• Actual amount received: ₹15,00,000
• 10 months' average salary: 10 × ₹90,000 = ₹9,00,000
• Leave credit cash equivalent: cap is 30 days × 15 years = 450 days, but only 150 days actually stand to credit, so this limb is 150 days × (₹90,000 ÷ 30 per-day rate) = ₹4,50,000
• ₹25,00,000 lifetime limit (nothing used previously): ₹25,00,000

The smallest of the four is ₹4,50,000 (the leave-credit limb) — so only ₹4,50,000 is exempt, and the remaining ₹10,50,000 is taxable, added to salary income for the year. This is a common pattern worth noticing: the accumulated-leave limb is very often the smallest of the four in practice — capped at 30 days per year of service, it rarely reaches as high as 10 months' salary or the ₹25 lakh ceiling, both of which look larger on paper but frequently aren't the binding constraint.

The ₹25 lakh limit is a lifetime total, confirmed directly

CBDT Notification No. 31/2023 (24 May 2023) and the accompanying press release (25 May 2023) state this explicitly: the aggregate amount exempt under Section 10(10AA)(ii) cannot exceed ₹25 lakh where payments come from more than one employer in the same year, and separately, the ₹25 lakh ceiling in any given year is reduced by whatever exemption you've already used in any previous year or years. Use part of it at one job, and a later payout from a different employer draws down the same remaining balance — not a fresh ₹25 lakh.

Applies under both tax regimes

Like the gratuity exemption, Section 10(10AA) isn't one of the deductions stripped out under the new tax regime — it applies the same way regardless of which regime you've chosen. See the Old vs New Tax Regime Calculator if the taxable portion affects which regime works out cheaper for you overall.

Related reading

• Government vs private-sector leave encashment tax treatment — the full-exemption-vs-capped split, worked through.
• Leave encashment during service vs at retirement/resignation — why timing changes everything here.
• ₹25 lakh leave encashment vs ₹25 lakh gratuity ceiling — two unrelated rules that happen to share a number.
• Is gratuity taxable in India? — the parallel exit-time exemption, with its own separate ₹20 lakh limit.
• Gratuity eligibility rules in India — the other entitlement most people check alongside this one when leaving a job.