Profit in lieu of salary refers to any amount received by an employee from an employer or a third party, in addition to or in place of salary or wages, before or after the termination of employment. It is considered taxable under the head “Income from Salaries” and includes payments like compensation on termination, cash gifts, and other similar receipts. These payments are taxable because they arise due to the employer-employee relationship and not from any independent business or profession of the employee.
As per Section 17(3) of the Income Tax Act, 1961, profit in lieu of salary includes:
(i) The amount of any compensation due to or received by an assessee from his employer or former employer at or in connection with the termination of his employment;
(ii) Any payment (other than gratuity, commuted pension, retrenchment compensation, or any payment exempt under Section 10) due to or received by an assessee, whether before his joining or after his cessation of employment, from an employer or former employer; and
(iii) Any amount received under a Keyman Insurance Policy including the sum allocated by way of bonus. These are explicitly brought under the scope of salary income to ensure uniformity and clarity in taxation.
Tax is levied on such profits even if received in lump sum or by way of settlement. However, some exemptions apply under specific sections like Section 10(10B) for retrenchment compensation or Section 10(10C) for voluntary retirement compensation, subject to certain conditions and limits. Employers must deduct tax at source (TDS) on such amounts, and employees are required to disclose them in their income tax returns.
Mnemonic to Remember:
👉 “C.I.K.E.” – Compensation, Income after termination, Keyman insurance, Employer-related receipt.
This helps you recall that any Compensation, Income post-employment, Keyman Insurance, or Employer-originated receipts are included under profit in lieu of salary.
