Full and final settlement: a step-by-step guide for HR teams

When an employee leaves, the last thing either side wants is a settlement that drags on for weeks or turns into a dispute. A full and final (F&F) settlement brings together everything the company owes the employee and everything the employee owes the company, and closes the account.

This guide walks through each component, the order to work in, and a simple worked example.

What goes into a full and final settlement

Amounts payable to the employee usually include:

• Salary for the days worked in the final month
• Leave encashment for unused, encashable leave, as per policy
• Gratuity, if the employee is eligible
• Bonus or incentives due for the period, as per policy or law
• Reimbursements approved but not yet paid
• Notice pay, if the company asked the employee not to serve notice

Amounts recoverable from the employee usually include:

• Outstanding salary advances and loans
• Notice period shortfall, if the employee did not serve the required notice and policy allows recovery
• Company property not returned
• Any other dues agreed in writing

Tax (TDS) is then worked out on the taxable portion, and the net amount is paid.

Step 1: Confirm the exit details

Record the resignation or termination date, the notice period required, the notice actually served, and the last working day. These dates drive almost every calculation that follows, so get them agreed in writing.

Step 2: Complete the exit checklist

Before money is released, collect clearances from each department: laptop and ID card returned, no pending advances in accounts, handover completed. A standard checklist, signed off in the system, stops F&F being delayed while HR chases people.

Step 3: Calculate salary for the final month

Pay salary for the days actually worked, using the same method your payroll uses for any partial month. Include any overtime or allowances due for those days.

Step 4: Calculate leave encashment

Check your leave policy: which leave types can be encashed, any maximum, and the salary basis for encashment. Take the closing balance of encashable leave on the last working day and apply the policy.

Leave encashment on exit may be taxable in part, depending on the employee's situation and current tax rules, so apply tax correctly.

Step 5: Check gratuity eligibility and amount

Gratuity is generally payable to employees who have completed the required years of continuous service. For eligible employees covered by the Payment of Gratuity rules, a commonly used formula is:

Gratuity = last drawn wages × 15 / 26 × completed years of service

Here "wages" usually means basic pay plus dearness allowance, subject to how wages are defined under current law. India's labour codes have changed some definitions and eligibility rules, including for fixed-term employees, so confirm what applies before calculating.

Step 6: Add other payables

Add any bonus, incentives and approved reimbursements due, and notice pay if applicable.

Step 7: Deduct recoveries

Subtract outstanding loans and advances, any recoverable notice period shortfall, and other agreed dues.

Step 8: Apply tax and pay

Work out TDS on the taxable portion, taking into account the employee's income and tax already deducted during the year. Then pay the net amount, and issue a settlement statement and any required tax documents.

Current law sets a time limit for paying final dues after an employee leaves. Check the timeline that applies to you and build your process to meet it.

Worked example

An employee resigns and their last working day is the 12th of a 30-day month. Monthly gross salary is ₹45,000, of which basic pay is ₹25,000. They have 10 days of encashable leave, 6 completed years of service, and an outstanding advance of ₹8,000. Leave is encashed on basic pay divided by 30 days, as per company policy.

TDS, if applicable, would then be deducted based on the employee's position for the year. The numbers here are for illustration only; your policy and the law decide the actual basis.

Common mistakes to avoid

• Using a different day-count method for the final month than regular payroll uses.
• Forgetting loans or advances recorded outside the payroll system.
• Calculating gratuity on gross salary instead of the correct wage definition.
• Missing leave that was approved but not yet deducted from the balance.
• Delaying payment while waiting for clearances that could have been collected earlier.

An F&F checklist

• Exit dates agreed and recorded
• Department clearances completed
• Final month salary calculated
• Leave balance verified and encashment calculated
• Gratuity eligibility checked and amount calculated
• Bonus, incentives and reimbursements added
• Loans, advances and other recoveries deducted
• Tax calculated
• Settlement statement shared and payment made within the required time

Where People CODE fits

People CODE calculates full and final settlement from the data it already holds: attendance up to the last working day, leave balances, salary structure, service length, loans and advances. HR reviews the result, adds any adjustments, and generates a settlement statement. If you are still running payroll in spreadsheets, our Excel to payroll software checklist is a good place to start.

To see an F&F calculated end to end, book a free demo.