written by | June 8, 2022

Retrenchment Compensation - Meaning, Eligibility and How it Works

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Table of Content


An employer and employee share a relationship in which an employer and employees associate on a professional front and behave accordingly in a working setup.

An employer and his employee come into a relationship when the person signs an employment contract with the company. The nature of the relationship is based upon many factors that vary from institution to institution, including the work environment and the nature of the business industry.  

Retrenchment compensation, in relation to the above discussion on employee-employer, is essential to understand. It is something wherein the employee is terminated from the organisation for any reason other than any unwanted disciplinary action. 

Did you know? 

The following items do not form a part of Retrenchment compensation:

1)Self retirement of the employee.

2)Employee’s retirement at the superannuation age. 

3)End of contract and suspension due to non-renewal of the contract.

4)End of contract and suspension due to continued illness.

What is Retrenchment Compensation?

Retrenchment Compensation meaning: It is the termination of an employee's employment by a manager for reasons other than a failure resulting in disciplinary action. The employer is then legally obligated to financially compensate the employee who was fired in this manner. In the corporate world, this is referred to as the retrenchment compensation procedure. 

Also Read: All About Special Allowance - its Taxation & Calculation in India

Eligibility for Employee Retrenchment Compensation

An employee can be brought under the scanner of the retrenchment compensation process upon fulfilling the following requisites. 

  • The employee should be employed. 
  • Completion of 240 days in the last 12 months of service continuously by an employee is then mathematically calculated upon the year of regular service. 

Continuous Service of Retrenchment Compensation

Continuous service under Retrenchment Compensation refers to the performance of interruption-free service. The following reasons are not considered an interruption of service:  sickness, officially approved leave, lawful strikes, locking up of industries, work halts, etc. In such cases, the cut back employee must be given his average pay of 15 days for his one year of regular service or provided with 15 days of average pay for a year of regular employment or any part beyond that for a period of half a year. 

Average Pay as per Retrenchment Compensation

As already observed under the Retrenchment Compensation scheme, the cut back employee must be given his average pay of 15 days for his one year of regular service or provided with 15 days of average pay for a year of regular employment or any part beyond that for a period of half a year. 

The employee must be reimbursed in the following manner listed below: 

  • The employee is made his payment under a monthly wise ground scheme based on three months. 
  • The employee is made his payment under a week base scheme for four weeks. 
  • The employee is made his payment on regular grounds based on the last 12 working days.

 

Compliance Requirements As Per Retrenchment Compensation

The employer is expected to compulsorily adhere to the following regulations in the case of a retrenchment compensation process: 

  • The employee should be given about the retrenchment decision with the help of a notice. 
  • The notice should be issued one month prior and brought into action. 
  • The notice should strictly mention the grounds behind the failure of compliance. 
  • The employee should be compensated well at the time of the reduction process and not beyond the passage of time. 

Components of Calculation

Retrenchment compensation calculation is calculated keeping in mind the allowances such as basic wages, dearness allowance (DA), all attendance attendees, house rent allowance, conveyance etc. Additionally, the value of housing and amenities have given according to the housing should be considered. 

Taxability 

The following should be exempted from being taxed: 

  • The amount of average pay provided to the employee is ₹5,00,000.
  • The net amount received.
  • If reimbursement crosses the above limits, it will be treated as salary or profit in the garb of salary.

However, compensations of such nature will incur relief by the regulations of the Income-Tax Act.

The above points need to be calculated for retrenchment compensation

Prerequisites of a Valid Retrenchment Process 

Section 25F mentions the requirements for a valid reduction process. These requisites are put into force if an employee has been in regular service for a minimum of 12 months in the situation of the retrenchment process. 

Also Read: What is Leave Encashment - Calculation, Rules and Taxation Explained

Requisites For A Valid Reduction Process Are

  • Within 30 days, the manager should provide a written notification that should contain the reduction process's basis; the retrenchment should only be put into force when the employee has been given the notice.
  • If the manager cannot send a note to the workmen within the specified period, they are eligible to pay an amount in compensation for such an act.
  • The employee must be reimbursed with a sum of money equal to their wages of 15 days for one full year of continuous service in the company or any portion of their service exceeding 6 months or half-year. 

The respective government authority is sent a notice in a particular pattern as mentioned in the authorised gadget. Regulations provided by the notice must adhere to the provisions of rule 76, which regulates the warnings of the retrenchment process. The requisites of reimbursing an employee are a compulsory precondition for the retrenchment process of an employee. Therefore non-compliance with the provisions will lead to the retrenchment process being invalid. For example, if the retrenchment process is proved invalid or is left unapproved by the government officials, in that case, an employee has the authority to get back to his service and get his respective wages for the period of his retrenchment.

Conclusion

The retrenchment compensation has been made in compliance with the constitutional rights of a citizen. The Supreme court approved labour laws when they were challenged on the grounds of constitutional validity, and the Parliament has kept the principles of social welfare and economic justice under consideration while drafting these laws of retrenchment compensation.

The industry has been given proper consideration, and its success is linked to worker happiness. Employees must therefore be heard if India is to become a welfare state with a socialist structure.

Employers in a company use the retrenchment process to bring down the number of employees in the company if they experience problems in terms of giving ample salary or wages to each one of them. The retrenchment terms and conditions are laid in the HR Policies of any firm. 

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FAQs

Q: What is retrenchment? Under what circumstances can the retrenchment compensation be made?

Ans:

Section 2(oo) of the Act defines the term 'retrenchment'. The term retrenchment can be referred to as the permanent termination of the employee's employment or a worker by their employer for any reason or circumstance other than disciplinary action.

Q: Is retrenchment compensation taxable?

Ans:

Such compensation is taxable in the hands of the employees as profit instead of salary. If the employer has retrenched an employee and is paid retrenchment compensation in place of that, it shall also be exempted up to ₹5,00,000 if other conditions are satisfied.

Q: Can a company hire after retrenchment compensation is done?

Ans:

It is a well-known practice for employers to include in the retrenchment letters that they might put back the employee to work if he stands retrenched if there is an apt vacancy in his industry within 6 months from the retrenchment date.

Q: What is unfair retrenchment under retrenchment compensation?

Ans:

If an employee feels that they have been unfairly retrenched, they can refer such a dispute to the Commission for Conciliation, Mediation and Arbitration ("CCMA") or a bargaining Council. The catch here is that the employee must refer their appeal within 30 days from the date they stand retrenched. 

Q: Who is eligible for retrenchment benefits under retrenchment compensation?

Ans:

An employee will be considered eligible for retrenchment compensation on the satisfaction of the following conditions: 

  • The employee must be a workman. 
  • The employee must have been there in service for a continuous period of 240 days in the last 12 months or 1 year, and then this will be calculated as continuous service.

Q: What benefits does one get when they are retrenched under retrenchment compensation?

Ans:

When an employee is retrenched, the employer pays an average sum for any cessation of their services, and this average amount of money qualifies as a compensation benefit. From 1st March 2011, special tax rates applicable to retrenchment benefits were put into force, where the first ₹315,000 of the benefits section was not taxable.

Q: How is retrenchment compensation calculated? List the conditions precedent to retrenchment compensation.

Ans:

The average pay is calculated by dividing the last monthly salary by 25 and then multiplying the dividend by 15 for everyone the employee has completed the work for the retrenchment compensation process. 

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Disclaimer :
The information, product and services provided on this website are provided on an “as is” and “as available” basis without any warranty or representation, express or implied. Khatabook Blogs are meant purely for educational discussion of financial products and services. Khatabook does not make a guarantee that the service will meet your requirements, or that it will be uninterrupted, timely and secure, and that errors, if any, will be corrected. The material and information contained herein is for general information purposes only. Consult a professional before relying on the information to make any legal, financial or business decisions. Use this information strictly at your own risk. Khatabook will not be liable for any false, inaccurate or incomplete information present on the website. Although every effort is made to ensure that the information contained in this website is updated, relevant and accurate, Khatabook makes no guarantees about the completeness, reliability, accuracy, suitability or availability with respect to the website or the information, product, services or related graphics contained on the website for any purpose. Khatabook will not be liable for the website being temporarily unavailable, due to any technical issues or otherwise, beyond its control and for any loss or damage suffered as a result of the use of or access to, or inability to use or access to this website whatsoever.