Under Section 17(3) of the Income Tax Act, Profit in Lieu of Salary refers to any compensation or benefit—monetary or otherwise—received by an employee in place of regular salary. These payments typically arise from circumstances such as:
Termination of employment
Change or modification in employment terms
Other employer-related conditions specified under tax regulations
Such amounts are treated as taxable salary income.
For government employees, compensation aligned with Pay Commission guidelines is also covered under this provision, ensuring uniformity with prescribed salary structures
Components Under Profit in Lieu of Salary – Section 17(3)
1. Termination-Related Compensation
Severance Pay: Compensation paid to an employee upon termination, often to support their transition.
Gratuity: A lump sum given at retirement/resignation as recognition of long service.
Other Payments on Termination: Includes leave encashment, early exit compensation, or legal settlements.
2. Unrecognized Provident Funds
Taxable Withdrawals: Payouts from unrecognized provident funds are fully taxable.
Non-Compliance: Such funds are not approved by tax authorities and lack statutory benefits.
3. Keyman Insurance Policy
Employer-Paid Premiums: If the employer pays premiums on a Keyman Insurance policy and is the beneficiary, these premiums are taxable as profit in lieu of salary.
4. Pre/Post-Employment Receipts
Signing Bonuses: Paid before the employment begins to secure the employee.
Deferred Bonuses: Earned during employment but received after leaving.
Restrictive Covenant Payments: Compensation for agreeing to post-employment restrictions (e.g., non-compete clauses)
Exclusions – Not Considered Profit in Lieu of Salary
Some payments are explicitly excluded from taxation under Section 17(3). These include:
Allowances & Reimbursements (within prescribed limits):
Travel and conveyance allowance
Meal allowance (linked to duty travel)
House rent allowance (HRA)
Relocation/shifting allowance
Medical reimbursements (with proof)
Education and uniform allowances
Contributions to Approved Funds:
Statutory and recognized provident fund contributions
Superannuation fund contributions
Contributions to approved health insurance policies
Statutory Benefits & Exempt Payments:
Gratuity under the Payment of Gratuity Act, 1972
Retrenchment compensation under labor laws
Leave encashment on retirement (subject to limits)
Gifts received on ceremonial occasions (subject to tax-free limits)
FAQs on Profit in Lieu of Salary
1. How is "Profit in Lieu of Salary" different from regular salary income?
Regular salary is your fixed compensation for services rendered. Profit in lieu of salary refers to additional payments received outside of regular salary—such as severance, gratuity (under certain conditions), unrecognized provident fund payouts, keyman insurance benefits, and signing or exit bonuses—which are still taxable as salary income.
2. In what scenarios can profits in lieu of salary arise?
These may arise from:
Termination of employment: Severance, gratuity, or early retirement compensation.
Contract modifications: Buyouts or amendments to employment terms.
Unrecognized PF payouts: Withdrawals from unapproved provident funds.
Keyman insurance: Employer-paid premiums where the employer is the beneficiary.
Pre/post-employment receipts: Bonuses or restrictive covenant payments
3. What does "salary in lieu" generally mean?
It refers to compensation received instead of regular wages—often during termination or temporary absence. Depending on the nature, it may be taxable under “profit in lieu of salary.”
4. Is there a separate tax rate for profit in lieu of salary?
No. It is taxed as part of your total income under the applicable income tax slab.
5. Are any exemptions available under profit in lieu of salary?
Yes. Certain payments are exempt, such as:
Gratuity under the Payment of Gratuity Act, 1972
Retrenchment compensation (under prescribed conditions)
Leave encashment (within statutory limits)
Gifts on customary occasions (within allowable thresholds)
6. How is the value of perquisites determined for taxation?
The value is calculated as per prescribed rules or fair market value, covering benefits like rent-free housing, cars, subsidized meals, etc.
7. Do non-monetary benefits like accommodation or vehicles fall under profit in lieu of salary?
Yes, if they exceed exemption limits, they are treated as taxable perquisites under “profits in lieu of salary.”
8. What documents are required to support profit in lieu of salary claims?
Maintain:
Termination letters
Bonus or compensation agreements
Salary slips
Payment receipts
Perquisite usage records (e.g., accommodation or car)
9. Are employers required to report such payments?
Yes. Employers must deduct TDS on profits in lieu of salary and report these payments in the employee’s Form 16 and tax filings.
