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Retrenchment Compensation: All You...

Retrenchment Compensation: All You Need To Know

R&R Admin
March 24, 2023

A sudden separation from your employment may knock you hard before you’re ready. It may rob you of all your confidence, morale, and financial stability. Nothing can be more relatable than the global recession between 2007 and 2009. Retrenchment compensation was the most popular buzzword in those days.

Retrenchment Compensation – Do You Need It?

The past few months have seen large-scale layoffs. The tech and financial sector was the hardest hit, with many bankers and others in the financial industry fearing they would be the next to get the pink slip. But, instead, with speculations of another major recession on the horizon, retrenchment compensation is making the rounds and is quickly becoming the hottest topic discussed during a tea break.

So, if you’re among those worried that the pink slip will be yours next, relax because we’ve got the best answers to your retrenchment compensation issues. So, let’s get started.

What is the Industrial Disputes Act (ID Act) 1947?

Before the Industrial Disputes Act of 1947, employers had the power to terminate employees arbitrarily. The ID Act introduced structured mechanisms for dispute resolution, protecting workers from unjust retrenchment and ensuring financial security.

How the ID Act Defines Retrenchment Compensation

Section 2(oo) of the ID Act defines retrenchment compensation as a monetary relief provided to employees whose services are terminated for reasons other than disciplinary action.

However, certain exclusions apply:

Voluntary retirement
Superannuation
Non-renewal of the employment contract
Termination due to prolonged illness or inability to perform work duties

What is Retrenchment Compensation?

Eligibility Criteria: Who Qualifies for Retrenchment Compensation?

To qualify for retrenchment compensation, an employee must:

Be categorized as a workman under Section 2(s) of the ID Act 1947.
Have worked at least 240 days in the last 12 months.

Who Can Receive Retrenchment Compensation?

Eligible employees must fulfill the following conditions:

They must be engaged in manual, technical, operational, clerical, or supervisory work.
Their salary should not exceed ₹10,000 per month if in a supervisory role.
They must not belong to excluded categories such as armed forces, police, or managerial personnel.

Who can receive Retrenchment Compensation?

There are two conditions for retrenchment compensation-

You must be covered under the definition of “Workman”.
You must have offered continuous service for 240 days in the previous 12 months, counted as one year of regular service. Sickness, officially sanctioned leaves, lock up of industries, work halts, etc., are not considered an interruption of service.

How to Calculate Retrenchment Compensation?

Retrenchment compensation is an average pay of 15 days per year of interruption-free service or any part of that for half a year. Consider the following example to gain a better understanding:

Say an employee X working in ABC for the last 4 years and earning a monthly in-hand salary of Rs. 50,000/-, is being laid off under company cost-cutting measures due to the recession. Then, the 15 days’ average X pay will be Rs. 25,000/- Now, the retrenchment compensation will be calculated as-

15 days’ average pay x No. of years of continued service i.e. Rs. 25,000/- X 4 = Rs. 1,00,000

Retrenchment should be put into force only when the employee is served a notice intimating the termination process at least 30 days before the action, failing which the company has to pay a retrenchment compensation. Further, the employer has to pay the employee his wages for the notice period.

Retrenchment compensation can be reimbursed in one of three ways:

Under a month-by-month ground scheme based on three months
An employee is paid every week for four weeks.
Under a week-based scheme on the last 12 working days.

Table: Retrenchment Compensation Calculation Example

Employee Tenure	Monthly Salary (₹)	15 Days’ Average Pay (₹)	Retrenchment Compensation (₹)
2 years	40,000	20,000	40,000
4 years	50,000	25,000	1,00,000
6 years	60,000	30,000	1,80,000

Retrenchment Compensation Taxability

Is Retrenchment Compensation Taxable?

Retrenchment compensation is taxable only if it exceeds ₹5,00,000. Any amount above ₹5,00,000 is taxed as income from salary under the Income Tax Act.

Tax Exemptions Under the Income Tax Act

If retrenchment compensation is ₹5,00,000 or less, it is fully tax-exempt.
If compensation exceeds ₹5,00,000, only the surplus amount is taxable.
If paid under a government-approved scheme, the full amount is tax-free.

Employer Responsibilities and Employee Rights

1. Notice Period and Compensation Payment Timeline

Employers must provide employees with a 30-day notice period before retrenchment. If not, they must compensate the employee with one month’s salary.

2. Legal Consequences of Non-Compliance by Employers

Failure to provide retrenchment compensation can lead to legal action, including:

Monetary fines
Employer liability for full compensation
Court orders for reinstatement of the employee

3. Employee Options If Retrenchment Compensation Is Denied

Employees can seek legal recourse through:

Labor courts or industrial tribunals
Filing complaints with the Labour Commissioner
Consulting with a labor lawyer for legal representation

Conclusion

The law governing retrenchment compensation for laid-off employees is based on citizens’ constitutional rights to economic justice. A significant anomaly in the termination created the need for a transparent and systematic framework. Employers used retrenchment policies to reduce labor costs even before the implementation of the ID Act in 1947. However, the methods used were biased and favored employers striking any compensation for sudden interruptions in regular income.

FAQs

Can an employer rehire an employee who has received retrenchment pay?

Employers usually include a clause in their retrenchment letters stating that the company may consider rehiring the employee within six months if he or she remains retrenched until then and there is a suitable slot in the company.

Will an employee be paid retrenchment compensation if not covered under the ID Act 1947?

Where an employee does not meet the “Workman” definition, the terms and conditions of the employment contract signed at the time of hire will govern your claim for retrenchment compensation. When an employee is fired, the payments are made by the contract terms.

If an employee believes that appropriate retrenchment compensation clauses are missing from his contract, he or she may bring the matter up with the employer to incorporate appropriate changes.

Can an employer fire an employee right before retirement?

Yes, an employer can fire an employee at any time before retirement if the employer intends not to prevent the employee from receiving full superannuation benefits. In such cases, proving intent may be difficult, so keep all records and documents detailing the events of your retirement in a safe place.

If your termination was caused by age discrimination, you can sue your employer for wrongful termination.