Severance compensation constitutes ‘profits in lieu of salary’, not capital receipts, under amended Section 17(3)(iii)

Hyderabad ITAT holds that the severance compensation of Rs. 26,97,912/- received by the Assessee is taxable as profits in lieu of salary under section 17(3); ITAT concurs with CIT(A)’s observation that the payment made by the employer to the Assessee was not voluntary, and that the compensation was paid in lieu of services rendered by the Assessee during the period preceding the cessation of employment; ITAT emphasises that the Assessee failed to demonstrate that the payment was gratuitous, voluntary, or compensatory for loss of employment in a capital field; Thus ITAT, in absence of any contrary evidence, and in view of the specific statutory inclusion under section 17(3)(iii), rejects Assessee’s claim that the severance compensation received by her constitutes as a capital receipt; ITAT rejects Assessee’s reliance on Gujarat High Court judgment in Arunbhai R. Naik v. ITO (2015) 64 taxmann.com 216 (Guj.)  by observing that the said judgment pertained to Assessment year 1994-95, however, as per an amendment inserted in clause (iii) to Section 17(3) with effect from 01.04.2002, which is applicable to the present case in relevant Assessment year 2018-19; Thus opines, “post 01.04.2002, any amount received by an employee at or on termination of employment, irrespective of nomenclature, mode of payment, or voluntariness, is liable to be taxed under section 17(3)(iii)”;  Thus dismisses Assessee’s appeal. [In favour of revenue] (Related Assessment year : 2018-19) – [Supriya Nagendla v. ITO [TS-1565-ITAT-2025(HYD)] – Date of Judgement : 19.11.2025 (ITAT Hyderabad)]


PRECAUTIONS FOR PROFESSIONALS

  1. Analyse all termination-related payments strictly under amended Section 17(3)(iii), applicable from 01.04.2002.

  2. Avoid treating severance or separation compensation as capital receipts unless falling under specific exemptions (e.g., Section 10(10C), retrenchment, VRS conditions).

  3. Document the nature, purpose, and computation of severance payments to evaluate taxability clearly.

  4. Advise employers to issue detailed breakup letters for termination payments to prevent future disputes.

  5. Avoid relying on pre-amendment judgments; ensure case law applicability to the assessment year involved.

  6. Educate clients that voluntariness, nomenclature, or mode of payment has no impact post-amendment—taxability is statutory.

  7. Where an assessee claims exemption, maintain robust evidence to support that the payment is not connected to past services.

  8. Ensure computation of TDS under Section 192 considers severance compensation fully, wherever applicable.

  9. Maintain written communication with clients highlighting that all termination-related receipts may be taxable to prevent litigation.

  10. In litigation matters, avoid framing arguments based on the “capital nature” of severance pay unless exceptional circumstances exist.