What is gratuity?
Gratuity is a special lump sum amount of money that employers pay to their employees as a token of gratitude for the service that they have offered. The gratuity rules have been mandated by the Payment of Gratuity Act, 1972, which was passed by the Indian parliament in august and implemented in September of the same year.
The payment of the Gratuity Act is exclusively applicable to oil fields, factories, mines, plantations, railways, ports, companies, undertakings, shops and other different establishments, maintaining the involvement of at least ten workmen. This act states the gratuity payment at the rate of 15 days’ wage or earnings on completing every single service year, maintaining a maximum limit of INR 10 lakhs. Under the context of any sort of seasonal establishment, the rate of gratuity is calculated at the rate of seven days’ earnings.
Basic rules of gratuity
- Gratuity needs to be paid by companies where the minimum strength is 10 employees:
Any particular organisation involving at least employees on a single day in the subsequent 12 months is liable for gratuity payment. However, as per the regulations of the gratuity payment act, even if the workforce reduces below 10, then also the concerned organisation must pay gratuity.
- Gratuity needs to be paid to employees after completion of 5 consecutive years’ of service:
An employee must serve the concerned organisation for at least 5 consecutive years to avail of the gratuity benefit. However, in case of any unfortunate accidental circumstance, this condition is not taken into consideration. As per the general rule of gratuity calculation, it is considered that in one year there are 240 working days. The gratuity calculator works accordingly.
- Circumstances of paying Gratuity:
The gratuity calculator starts ticking as soon as all the relevant eligibility criteria are met. However, the payment of gratuity is not limited to retirement only. Any eligible employee can claim gratuity upon retirement, resignation, demise, temporary or permanent disablement caused by any accident, termination, voluntary retirement, layoff for retrenchment, etc.
- Gratuity is calculated on the basis of service tenure and last drawn salary:
The gratuity calculator works considering the service tenure and the latest salary drawn. However, the application differs from one organisation to another.
- Gratuity calculation method for those employees who are covered under the Gratuity Act:
As mentioned above, any organisation with at least 10 employees on any single day for the preceding 12 months is covered here. Here, the gratuity calculation norm is
Gratuity= (15 x last salary drawn x number of service years completed)/26.
Here, the last salary drawn includes both basic and DA. However, it excludes any other component income. Service tenure includes completion of over 6 months in any particular organisation.
- Gratuity calculation method for those employees not covered by the Gratuity Act:
For employees who are not covered under the gratuity act, the gratuity calculator works like this:
(15 x average salary drawn for the past 10 months x employment tenure) x 30.
Here, the salary involves DA, basic, and other commissions. Any other salary component is excluded. The employment tenure is exclusively considered depending on completing every service year.
- Reasons for forfeiting gratuity:
Any employer can forfeit the payment of gratuity in case the employee concerned is terminated under the following circumstances:
- Committing any grievous offence questioning the morality.
- Any violent, riotous, or disorderly conduct.
- Gratuity payment refusal:
No authentic, listed organisation is liable to refuse gratuity even during bankruptcy. - The working strategy of income tax calculator in case of gratuity calculation
Any organisation that pays a gratuity of up to INR 20 lakhs remains covered under the Payment of Gratuity Act, 1972, other than the local governing bodies, defence, state, and central government bodies enjoys tax exemption, as per the current gratuity norms of 2021.
- Applicability of income tax for various employees
| ORGANISATION TYPE | IMPLICATIONS OF GRATUITY TAX |
| Covered under the Gratuity Act | Not applicable up to:
● INR 20 lakh ● The actual gratuity amount received ● (15 x last salary drawn x no. of service years completed)/26 |
| Not covered under the Gratuity Act | Not applicable up to the least of the following:
● The actual sum of gratuity received ● INR 10 lakh ● (15 x average salary drawn for the last 10 months x number of employment years) x 30 |
| State/central government, local government authorities, defence | Not applicable |
- Maintaining the threshold of INR 20 lakhs for tax exemption during cumulative gratuity reception
If any employee receives a gratuity sum of INR 20 lakhs from an organisation and leaves to join another organisation. From the second employment, he receives, say INR 3 lakh gratuity amount. Therefore, his/her cumulative gratuity amount results in INR 23 lakhs. As per the current income tax calculator strategy, he needs to pay tax for INR 3 lakhs, as the tax exemption limit is up to INR 20 lakhs.
- Tax exemption for gratuity payment to the widow/widower or legal heir
The income tax calculator states that in case of the demise of the concerned employee if the gratuity is received by the widow/widower or the legal heir, it never falls under the purview of income tax deduction. Moreover, any sort of ex-gratia payment received by the employee or his/her legal heir also remains tax-free.
The above discussion sheds light on the revised gratuity norms. Every employee needs to remain aware of these crucial details.