Navigating Resignation and Leave Entitlements in Peninsular Malaysia and Labuan: Garden Leave, Payment in Lieu of Annual Leave, and Rules

Employee offboarding requires strict adherence to legal frameworks to prevent labour disputes and ensure a smooth transition. Managing resignation and leave entitlements involves navigating the specific provisions of the Employment Act 1955 [Act 265] and the explicit terms within a contract of service.

Jurisdiction Note: Section 1(2) of the Employment Act 1955 [Act 265] provides that the Act applies to Peninsular Malaysia. Its application was extended to the Federal Territory of Labuan with effect from 1 November 2000 under the Federal Territory of Labuan (Extension and Modification of Employment Act) Order 2000 [P.U. (A) 400/2000]. Sabah and Sarawak are governed by their respective Labour Ordinances, as amended by Acts A1753 and A1754, which came into operation on 1 May 2025 except Part IVA. This article primarily focuses on Act 265.

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Understanding Leave Entitlements Under the Employment Act 1955

Before addressing offboarding scenarios, employers must understand the baseline statutory leave rights. Act 265 dictates the minimum paid annual leave days for covered employees. The First Schedule expressly excludes domestic employees from these Section 60E provisions.

Statutory Annual Leave Entitlements

According to Section 60E(1), an employee’s entitlement to paid annual leave depends on their continuous tenure with the same employer:

Tenure (Continuous Service)	Minimum Statutory Annual Leave Entitlement
Less than two (2) years	Eight (8) days for every twelve months of continuous service
Two (2) years or more but less than five (5) years	Twelve (12) days for every twelve months of continuous service
Five (5) years or more	Sixteen (16) days for every twelve months of continuous service

Pro-ration and Forfeiture of Annual Leave

The legal framework imposes specific conditions on leave accrual and forfeiture:

• Pro-rated Leave Calculation: If an employee has not completed twelve months of continuous service in the year their contract terminates, Section 60E(1) provides that their paid annual leave entitlement is based on the number of completed months of service. Employers must disregard fractions of a day less than one-half and deem fractions of one-half or more as one full day.
• Forfeiture Due to Absenteeism: Under the proviso to Section 60E(1), an employee ceases to be entitled to their annual leave if they absent themselves from work without prior permission and without reasonable excuse for more than ten per centum (10%) of the working days during the twelve months of continuous service.

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Handling Unused Annual Leave Upon Termination

When a contract of service is to terminate, the employee may have an outstanding annual leave balance that must be dealt with in accordance with Section 60E and the applicable terms of the contract of service.

Taking Leave Before Termination and Offsetting Notice

Employees frequently request to use their outstanding annual leave during their notice period.

• Entitlement to Take Leave: Section 60E(2A) expressly provides that upon termination, the employee shall be entitled to take the specified paid annual leave before such termination takes place.
• Physical Absence vs. Contractual End Date: Taking leave during the notice period may bring forward the last day the employee physically works, but it does not by itself bring forward the contractual termination date.

Payment in Lieu of Annual Leave (Leave Encashment)

• Payment in lieu by written agreement: Separately, under Section 60E(2), where, at the request of the employer, an employee agrees in writing not to avail themselves of any or all of their annual leave entitlement, the employee is entitled to payment in lieu of such annual leave.
• Payment upon termination: If the contract of service is terminated by either party before the employee has taken the paid annual leave to which they are entitled, Section 60E(3A) requires the employer to pay the employee their ordinary rate of pay in respect of every day of such leave. This subsection does not apply where the employee is dismissed under paragraph 14(1)(a).

To calculate this payment, Section 60I defines the “ordinary rate of pay” by reference to “wages”.

• Statutory Formula: For a monthly-rated employee, the formula is the monthly rate of pay divided by 26.
• Alternative Methods: Section 60I(2) permits another calculation method provided it does not produce a lower rate.

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What is Garden Leave and the Governing Legal Principles?

Garden leave occurs during the notice period while the contract of service remains in force. The employer instructs the employee to serve their notice away from the workplace, typically to protect confidential information and client relationships.

The Contractual Basis of Gardening Leave

The Employment Act 1955 contains no express statutory garden leave regime.

• Drafting an Express Clause: An express garden leave clause is strongly advisable.
• Legal Risks: In the absence of an express contractual right or the employee’s agreement, imposing garden leave may amount to a breach of the contract of service and, depending on the nature and seriousness of the breach and the employee’s response, may form the basis of a constructive dismissal claim through a representation under Section 20 of the Industrial Relations Act 1967.

Garden Leave vs. Suspension Under Section 14

Garden leave is fundamentally different from a statutory suspension.

Feature	Garden Leave	Suspension (Section 14(2) of EA 1955)	Suspension as Punishment (Section 14(1)(c))
Purpose	Protective measure during the notice period.	For the purposes of an inquiry under subsection 14(1).	Lesser punishment imposed after due inquiry.
Duration	All or part of the notice period, depending on the contract and instructions.	Maximum of two (2) weeks.	Maximum of two (2) weeks.
Remuneration	Continues per the contract of service.	Not less than half his wages; if the inquiry does not disclose any misconduct, the employer shall forthwith restore the full amount of wages withheld.	Without wages.

Fiduciary Duties and Commencing New Employment

An employee on garden leave remains bound by the contract of service.

• Duty of Fidelity: The employee remains subject to the implied duty of fidelity, confidentiality obligations and, where applicable because of the employee’s position and responsibilities, fiduciary duties.
• New Employment Restrictions: Because the employee remains employed, starting other employment may breach an express exclusivity provision, the duty of fidelity or, where applicable, fiduciary duties, particularly where there is a conflict of interest.

2026 Statutory Obligations: EPF, SOCSO, EIS, and PCB

Statutory contributions and deductions continue where the employee remains within the relevant statutory scheme and wages remain payable. HR professionals must apply the current 2026 guidelines:

• Employees Provident Fund (EPF): Contributions must be calculated in accordance with the applicable statutory contribution schedule. Mandatory EPF coverage was extended to qualifying non-Malaysian citizen employees from wages for October 2025. The 2% employer and 2% employee rate applies to the relevant non-Malaysian member category, while Malaysian permanent residents and non-Malaysian members registered before 1 August 1998 remain subject to their applicable existing statutory rates.
• Social Security Organisation (SOCSO): Contributions under Act 4 and Act 800 are subject to the RM6,000 monthly wage ceiling, effective from 1 October 2024. The Non-Employment Injury Scheme (LINDUNG 24 Jam) commenced on 1 June 2026. With effect from 8 July 2026, participation is voluntary for local employees and the contribution is fully borne by participating employees, while participation remains mandatory for foreign workers. The Phase One employee contribution rate is 0.75% of wages, subject to the applicable statutory contribution wage ceiling. Employers remit the contribution on behalf of employees while the employment continues.
• Employment Insurance System (EIS): Contributions apply to employees who fall within the coverage of the Employment Insurance System and Employment Services Act 2017 [Act 800]. Paragraph 10 of the First Schedule excludes a “foreign employee” subject to the specific exceptions stated in paragraphs 10(a)-(c); therefore, coverage should be determined by reference to the statutory categories rather than nationality alone.
• Monthly Tax Deduction (MTD/PCB): Employers must calculate and deduct MTD in accordance with the applicable Income Tax Act 1967 requirements and HASiL rules. For computerized payroll calculations, the latest 2026 Specification for MTD Calculations Using Computerised Calculation should be applied.

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How Worksy HRMS Empowers Managers During Offboarding

Navigating statutory formulas and maintaining accurate wage calculations requires precision. An HRIS system like Worksy HRMS provides the tools to support compliance.

• Automated Statutory Compliance: Worksy automates the ordinary rate of pay formula after manually setting it up in the system, to calculate accurate payment in lieu of leave. The system updates seamlessly with the applicable 2026 EPF rates for non-citizens, the RM6,000 SOCSO wage ceiling, and the latest HASiL MTD specifications.
• Accrual and Policy Flexibility: While statutory pro-ration under Section 60E(1) relies on completed months of service, Worksy accommodates company-specific daily accrual policies for internal tracking while supporting compliance with the applicable statutory baseline.

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Frequently Asked Questions (FAQs)

Does a company breach the Employment Act 1955 if they deny leave encashment?

Not necessarily. The Employment Act 1955 does not provide a general unilateral right for an employee to convert annual leave into cash. Under Section 60E(2), payment in lieu applies where, at the employer’s request, the employee agrees in writing not to take any or all of the annual leave entitlement. Separately, if the contract of service is terminated by either party before the employee has taken the paid annual leave to which they are entitled, Section 60E(3A) requires payment at the employee’s ordinary rate of pay for every day of such leave, subject to the paragraph 14(1)(a) exception.

Can an employer deduct wages for unserved notice periods?

Under Section 13(1), either party may terminate the contract of service without notice, or without waiting for the expiry of notice already given, by paying to the other party an indemnity equal to the amount of wages which would have accrued during the term of notice or the unexpired part of that term. Section 24(2)(b) permits the employer to make a deduction from wages for an indemnity due to the employer under Section 13(1).

Does annual leave continue to accrue while the employee serves garden leave?

For an employee to whom Section 60E applies, the contract remains in force during paid garden leave, so continuous service continues and annual leave accrues accordingly. However, for the year of termination, statutory pro-ration must still follow the completed-months rule under Section 60E(1).

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Official Legal and Statutory Sources (2026)

• Employment Act 1955 [Act 265]: Sections 1, 13, 14, 24, 60E, and 60I, including First Schedule applicability.
• Federal Territory of Labuan (Extension and Modification of Employment Act) Order 2000 [P.U. (A) 400/2000].
• Industrial Relations Act 1967 [Act 177]: Section 20 representations.
• Sabah Labour Ordinance (Cap 67) & Sarawak Labour Ordinance (Cap 76): As amended by Acts A1753 and A1754 (effective 1 May 2025 except Part IVA).
• Employees’ Social Security Act 1969 [Act 4], as amended by the Employees’ Social Security (Amendment) Act 2026 [Act A1788]: Non-Employment Injury Scheme (LINDUNG 24 Jam) provisions and Third Schedule contribution rates.
• Employment Insurance System and Employment Services Act 2017 [Act 800]: As amended by the Employment Insurance System (Amendment) Act 2026 [Act A1796], together with P.U. (B) 391/2026. Act A1796 came into operation on 1 October 2026 except section 11, which comes into operation on 2 January 2027.
• Employees Provident Fund Act 1991 [Act 452]: Applicable contribution provisions and Third Schedule, including the contribution schedules effective from wages for October 2025.
• Social Security Organisation (PERKESO): Act 4 & Act 800 RM6,000 wage ceiling, and LINDUNG 24 Jam guidelines.
• Income Tax Act 1967 [Act 53] and Income Tax (Deduction from Remuneration) Rules 1994 [P.U. (A) 507/1994], together with the HASiL 2026 Specification for MTD Calculations Using Computerised Calculation.