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Leave Encashment: What is it & How to Calculate it?

by | Jan 23, 2020 | Finance

Companies nowadays have different policies for the welfare and encouragement of their employees. Leave encashment constitutes one such privilege that is given by so many organizations to their employees. But have you ever wondered how this leave encashment is done? If you are looking for an answer, let’s discuss it to know what it is and how it is calculated!

Leave Encashment: What is it?

So many organizations out there offer casual leaves, medical leaves, and paid leaves each year to all of their employees. But do you know if an employee does not avail of those leaves, what happens? In such cases, the organization can carry forward the leaves to the next subsequent year. 

Furthermore, the employee is also given an option where he or she can encash those leaves and get the amount based on the number of days against the salary and they usually prefer a leave management tool for this. This policy where an employee can encash his or her leaves is what you can refer to as leave encashment. 

Leave Encashment Calculation

The rules and process of leave encashment somewhat vary from organization to organization. Basically, the basic salary along with dearness allowance is taken into account while calculating the amount. Also, there are many organizations where no such policies are applicable to leave encashment. 

As a matter of fact, Factories Act 1948 along with its State Rules regulates earned leaves. But, if a company wants to provide more benefits, the amount will be calculated as per the policy of the company.

The Formula of Calculating Leave Encashment:

Given below is the formula for calculating leave encashment of an employee if he or she has not used his or her leaves. Check it out!

((Basic + Dearness Allowance) / 26) x the number of an employee’s encashment days

Here, 26 represents the total working days in a month. 

For example, if the salary of an employee is INR 20,000 per month (basic + DA) while leave allowed every month is maximum 2, and his encashment days 7, the total leave encashment would be as follows:

Leave encashment = (20,000 / 26) x 7 = INR 5,384.6

Nowadays, you do not have to do all the manual calculations all by yourself as there are numerous leave software and tools available that can do the calculation for you.  

Leave Encashment Procedure

If an employee wishes to encash his or her leaves while he or she is in service, the employee needs to apply for it in writing to the concerned sanctioning officer. A sanctioning authority is competent in the process of sanctioning the leave to all the employees and approves leave encashment as well. Also, some companies automatically encash the leaves of all employees at the end of the year as per their policy.  They usually use a software tool for processing it. 

Who is Eligible?

Mentioned below are the circumstances when an employee is eligible for leave encashment. Let’s check them out!

When the Employee is in Service

  • An employee can encash his or her unused leaves the next subsequent year once the leaves are carried forward. The employee can encash up to 50 percent of his or her earned leave.
  • If the resignation of an employee is accepted, he can receive the leave encashment on the date on which he or she is to be released from the service.   
  • Trainees can also encash their unused leaves after they complete their training. However, all off-days along with holidays occurring during the given period of training are to be excluded while calculating their leave encashment.

Upon Retirement

If an employee retires from the service, he or she can avail the leave encashment if the leaves are unused.

On Death

If an employee dies during the period of service, his or her leave salary of standing earned leaves must be paid to the employee’s legal heir. 

On Retrenchment

In case of retrenchment, an employee must be paid his leave salary of due earned leaves. 

Who is Not Eligible?

If an employee is removed or dismissed from his service, the leave encashment policy will not be given to him or her. While if he or she is terminated, the employee may or may not be eligible to earn leave encashment as per the organization rules. 

The Benefits of Leave Encashment

  • Leave encashment is calculated on the basis of an employee’s last withdrawn salary. It may include basic pay, medical allowance, dearness allowance, personal pay, and so on. 
  • Encashment benefits do not include salary or wages while an employee is working overtime, bonus funds, PF, and so on. 

Now that you have some idea about leave encashment policy, you can utilize it fruitfully whether you are an HR or an employee. Most leave solutions come at a decent price and you should definitely use one to automate leave management in your business. 

Even though you may have leave software, you must know about this policy if your current organization offers this benefit or for your future references.

About Lingappa:

Lingappa is the General Manager of Payroll Operations at Paybooks. He has worked in the payroll industry for 13 years gaining unparalleled experience in managing payroll, payroll outsourcing and payroll implementation. He is passionate about helping people in all aspects of the payroll industry enjoy sharing knowledge about payroll with his peers.