The ₹1,00,000 That Never Arrived

It is a Tuesday night. Dinner is over. He opens his Form 16 the way most of us open tax papers — half awake, expecting nothing.

Then he reads it again.

It says he earned ₹1,00,000 in his last month at the company. He remembers that month clearly. He worked it. He resigned in the middle of it. And he walked out without serving the full notice period his contract asked for.

So the company kept that salary. They used it to cover the notice pay he owed them. Nothing came to his bank account. Not one rupee.

But there it is on the paper. Full amount. Taxed.

He writes the message that every payroll team in India has received at some point:

I never got this money. How can you tax me on it?

It is a fair question. The answer will not make him happy.

But here is the interesting part. He does have a real argument. It is just not the one he is making. And it is sitting in a document he signed years ago and never opened again.

Five words end the first argument

Section 15 of the Income-tax Act taxes salary that is:

due from an employer to an employee in the year, whether paid or not.

Whether paid or not. Five words, and his objection is finished.

Tax does not wait for money to move. It applies the moment the salary becomes due — the moment the company owes it to you. Your bank statement only shows whether you were paid. Being paid was never the test.

Before you decide this rule is unfair, look at who it usually protects.

Say a company runs out of money and stops paying salaries for four months. That salary is still earned. It is still yours. You can still demand it. That is the same rule working in your favour.

You cannot use that rule when it helps you and reject it when it does not.

So his first argument is gone.

The second argument hits a wall

He tries the obvious next step.

Fine. Say the salary was earned. But I effectively paid ₹1,00,000 back to the company. Let me claim that as a deduction.

This is where salary income turns out to be a very small room.

A businessman can deduct almost every expense he takes on to earn his profit. A salaried person gets three deductions. That is all.

• Standard deduction
• Entertainment allowance, for government employees only
• Professional tax

That is Section 16, in full. There is no fourth option. There is no general line at the end for "other reasonable expenses."

Read that short list again and notice what is missing. The law simply does not imagine money going from an employee to an employer. There is no place to put it.

So the deduction route is not hard. It does not exist.

Which leaves only one place left to fight. And it is much earlier than he has been looking.

The letter he never read

Somewhere in his email, in a folder from four years ago, is his appointment letter.

He read the salary figure. He read the designation. He read the joining date. Almost nobody reads further.

The notice clause is in there. And it decides this entire case.

Indian companies write that clause in three ways. They look similar. They are not. They do three completely different things.

Type 1 — pay instead of serving. "Either side may end this contract with 60 days notice, or by paying salary in place of notice."

This gives him a choice. He chose to leave early, so he owes the company money. His salary is still his salary.

Type 2 — the company can recover. "The company may recover the notice pay from any amount payable to the employee, including salary and full and final settlement."

This says two things: he owes money, and the company can take it from what they owe him. Again, his salary was earned. It was then used to clear his debt.

Type 3 — he loses the salary. "An employee who does not serve notice shall forfeit the salary for that period." Or: "shall not be entitled to salary for that period."

This one is different. It does not create a debt at all. It cancels his right to that salary from the beginning.

Now see why this matters so much.

Under Type 1 and Type 2, two people owed each other money. His company owed him ₹1,00,000. He owed them notice pay. They cancelled each other out.

In law, cancelling two debts like this is called set-off. And a debt settled by set-off is a debt that has been paid. It is exactly the same as the company paying him ₹1,00,000 and him writing a cheque back the same day.

Nobody would argue that the cheque version escapes tax. The law does not care how many bank transfers you used to reach the same place.

Under Type 3, there was never a debt to settle. His right to that salary could be cancelled, and it was cancelled.

And a right that can be taken away is not a right you fully own yet. That is not my view. That is the Supreme Court, in CIT v. L.W. Russel (1964). Until a right is fully yours, there is nothing for tax to hold on to.

So the real question is simple:

Does his clause make him owe money, or does it cancel his salary?

Forty words in an old letter. That question is worth more than everything he has said about his bank account. He has been arguing about the wrong thing, while the better argument sits unopened in his email.

Nobody turned up

There is one more part of this story, and it is the strangest one.

Search this topic online and you will find the same case everywhere, quoted with full confidence: Nandinho Rebello, ITAT Ahmedabad, 2017. Notice pay is deducted. Only what you actually received is taxed. Settled law, apparently.

Then you read the actual order.

Nobody appeared for the employee. Not a lawyer, not the man himself. The Tribunal noted that the issue was small, and decided the case after hearing only the tax department.

So the rule that half the internet now repeats came from a hearing where one side did not show up.

The reasoning is about one paragraph long. It never discusses Section 15 — the very section the officer below had relied on. It does not deal with the High Court judgment quoted against it. And it contains a line that argues with itself: it describes the salary as "already made to the assessee" — meaning already paid — and then says only the net amount is taxable. If it was already paid, tax applied when it was paid.

Also, a Tribunal order binds only the two parties in that case. It does not bind your company, your assessing officer, or you. No High Court has agreed with it since.

That does not make it worthless. It is the only judgment directly on this subject, and it has not been overturned. But there is a big gap between one unopposed order and settled law. The internet has filled that gap with confidence nobody earned.

And there is a trap in it for him. That case works on the basis that the employee was paid, and money was taken back later. His whole complaint is that he was never paid at all. He cannot use both stories.

What the government already admitted

Here is my favourite part. It comes from a completely different law.

On income tax, the department has said nothing about notice pay. No circular. No clarification. The annual salary TDS circulars run for dozens of pages and never mention it.

But the GST side did speak. In August 2022, CBIC Circular No. 178/10/2022-GST explained what notice pay recovery actually is. It said the company is not charging you for "allowing" you to resign. The recovery is a penalty, meant to discourage employees from leaving early.

That circular is about GST, not income tax. It does not bind anyone here.

But look at what the government accepted about the nature of this money. Notice pay is a separate amount you owe for breaking a promise. It is not a reduction in the salary you earned.

That is exactly the employer's argument. The government made it for them, in a different case, about a different tax.

Why your employer will not change the Form 16

Meanwhile, the payroll manager is doing a much colder calculation than anyone realises.

If the company reports the full ₹1,00,000 and it later turns out the smaller figure was correct, nothing happens to the company. They only deducted extra tax. The employee files his return, claims the refund, and gets his money back.

If the company reports the smaller figure and the full amount was correct, the company is in trouble. It becomes a defaulter for not deducting enough tax. It pays interest. It can face a penalty.

Same doubt. Very different results. No sensible finance team chooses the second option.

There is a practical reason too. Form 16 has no line for money recovered from an employee. So "showing the net figure" is not a formatting choice. The only way to do it is to write a smaller number where the salary is supposed to go — and then that number is no longer what it claims to be.

The clean approach: report the full salary in Form 16, and show four separate lines in the full and final settlement — salary earned, TDS deducted, notice pay recovered, and the final amount. Certify honestly. Disclose everything. Then let the employee take his own view in his return.

The part that is still unfair

Let us say everything goes the company's way. The clause creates a debt. The set-off is clean. The full amount is correctly taxed.

He is still a man who paid tax on ₹1,00,000 he never held. He paid his notice pay out of money that had already been taxed. He got no deduction for any of it. And this happened at the exact moment he had no job and no salary coming in.

That is legally correct. I would defend it in writing. It is also a bad outcome for an ordinary person, and I do not think we should hide that behind the section numbers.

Section 16 having only three deductions is a choice someone made. It is not a law of nature. One small line allowing a deduction for notice pay actually recovered would cost the government very little. It would end a dispute that repeats in thousands of resignations every year.

Until someone writes that line, all of this comes down to forty words in a letter most of us signed without reading — and will only go looking for on some Tuesday night, when a PDF does not add up.

You may as well go and read yours now.

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The story here is an example, not a real case. This article explains the general position for learning purposes. It is not advice on anyone's specific situation. The law here is genuinely unsettled — there is no tax department guidance on notice pay at all — and the answer depends on the exact words in each contract. If real money is involved, take advice on your own facts.