Voluntary Retirement Scheme – VRS also known as ‘The Golden Handshake’ is an option that is provided to employees of an organisation to retire voluntarily from the services before the actual date of retirement. Under this scheme employees who decide to exercise this option will get a one-time lump sum payment called Voluntary Retirement Compensation.
There are several reasons for a company deciding to offer VRS, the most common reasons include reducing the cost of the operations by retrenching the surplus workforce. This article will give detailed information on VRS and its taxability in India.
What are the Tax Implications on VRS Compensation?
Under section 17(3) of the Income Tax Act, VRS falls under ‘Profit in Lieu of Salary’. As per the definition ‘Profit in Lieu of Salary’ is the amount of any compensation due or received by an assessee from his employer or former employer at or in connection with the termination of his employment or the modification of the terms and conditions.
VRS is taxable in the hands of the employees and under the head ‘Income from Salary’. The following are the aspects that one needs to take into account while calculating the tax implications for VRS:
Exemption Under Section 10(10C)
As per this section, the amount that an employee receives for his/her service in;
- public sector or any other firms,
- authority established under Central, State or Provincial Act,
- Co-operative Societies,
- Local Authority,
- Universities, IITs and Notified Management Institutes etc are considered to be exempt to the lowest of the following:
- Three months salary for each completed year of service
- Salary at the time of retirement multiplied by the balance months of service left before the date of retirement
- INR 5,00,000
- Actual amount received
Relief Under Section 89
Section 89 provides relief to mitigate the additional tax burden that may arise because of a large sum of money that suddenly paid in advance (in the form of VRS) or in arrears in a particular year. Individuals who wish to claim a relief u/s 89 must make sure to file form 10E before filing their income tax online.
How to Calculate Relief Under Section 89?
Following are the steps to calculate refile under section 89:
- Calculate the total tax payable
Firstly, calculate the total tax payable on the income, which includes additional salary, arrears or compensations, in the year you receive the compensation
- Compute the tax rate
Now, Calculate the tax rate on total taxable income during the year in which you receive the compensation
- Calculate the tax on total income
Next, calculate the tax on total income by adding 1/3rd of the VRS amount received in each of the three preceding previous years immediately preceding the year in which the VRS is received.
- Compute the rate of tax
Now, Calculate the rate of tax for each preceding three years individually.
- Compute the average of rate of tax
Next, compute the average of rate of tax for three preceding years.
- Amount of Relief
Finally, calculate the amount of relief = VRS amount X [Step 2 – Step 5]
It is important to note that both section 10(10C) and section 89 are mutually exclusive. It means that an individual can only claim either exemption u/s 10(10C) or relief u/s 89. Moreover, if one claims an exemption or relief in any assessment year then it cannot be claimed again in any other assessment year.
Who is Eligible to Claim VRS?
The list of eligible employees as per Sec 10(10C) who can claim VRS Exemption includes employees of ‘any other company’. Thus, private sector employees can claim exemption subject to the following conditions as per Rule 2BA:
- An employee has completed 10 years of service or completed 40 years of age (Does not apply to public sector employees)
- Can be claimed by all employees including workers and executives except directors
- VRS Scheme is initiated for a reduction in the existing strength of the employees
- A vacancy caused by the VRS is not to being filled up
- The retiring employee shall not be employed in another company belonging to the same management
No, both section 10(10C) and section 89 are mutually exclusive. This means that one can only claim either of the two.
Exemption of INR 5 lakhs is a one-time exemption, i.e. an employee can claim this exemption only once in a lifetime.