Gratuity Rules in India

What is Gratuity?

Gratuity is an amount paid by an employer to their employee in return for the services offered by them to the company. This benefit is granted to employees with at least five years of company tenure. Essentially, gratuity reflects a company's gratitude towards its long-serving employees. The rules for gratuity are outlined in the Payment of Gratuity Act of 1972.

IMPORTANT:

The Payment of Gratuity Act of 1972 is applicable to all the central and state government departments, defence, and local governing bodies. Private organizations may be included if they meet specific conditions.

Gratuity Rules on Eligibility Criteria

1. Eligibility Based on Employment:

   Employees can receive gratuity not only upon retirement but also in situations like—

   • Superannuation

   • Resignation

   • Death or disablement

   • Retrenchment

   • Voluntary retirement

   • Termination

2. Eligibility for Businesses and Institutions:

   • Gratuity is mandatory for organizations with 10 or more employees in the past 12 months.

   • For non-underground work, a year is 240 working days; for roles in mines, it is 190 days.

3. Eligibility for Employees:

   • To qualify for gratuity, an employee must serve continuously for 5 years.

   • The 5-year count includes breaks from strikes, lockouts, accidents, leaves, layoffs, unauthorized absence, and non-employee-initiated termination.

Exception to 5-Year Gratuity Rule:

Generally, an employee is eligible for gratuity only after completing five years of continuous service with an establishment. However, there are two exceptions to this rule:

1. Termination Due to Death or Disablement:

   If an employee's service ends due to death or disablement, they are eligible for gratuity, irrespective of completing five years.

2. 4 Years 240 Days Rule:

   In specific situations, an employee can qualify for gratuity with just four years and seven months of continuous service. The Payment of Gratuity Act, 1972, considers 240 days of service in the fifth year as equivalent to completing five years of continuous service.

Rule for Gratuity Calculation

Gratuity is determined by considering an individual's final salary and years of service. The calculation method varies based on whether the organization falls under the Payment of Gratuity Act, 1972.

1. Gratuity Calculation for Employees Covered by the Act:

   Organizations with at least 10 employees in the past 12 months fall under this act. The formula for their gratuity calculation is:

   Gratuity Formula = (15 x Last Drawn Salary x Number of Working Years) / 26

   Where,

   • Last Drawn Salary = Basic Salary + Dearness Allowance (DA)

   • One Working Year = An year in which the employee worked for 6 months or more

   Illustration of Gratuity Calculation for Employees Covered u/ Gratuity Act:

   Let us consider an example of Mr. X:

   • Working Period of Mr. X = 11 years and 8 months

   • No. of working years = 12 years

   • Last drawn salary = Rs. 75,000

   Total Gratuity = Rs. 5,19,230

2. Gratuity Calculation for Employees Not Covered by the Act:

   For those not covered by the act, the formula is:

   Gratuity Formula = (15 x Last Drawn Salary in Last 10 Months x Number of Working Years) x 30

   Where,

   • Last Drawn Salary = Basic Salary + DA + Commissions

   • One Working Year = On completion of each year of work

   Illustration of Gratuity Calculation for Employees Not Covered u/ Gratuity Act:

   Let us consider an example of Mr. Y:

   • Working Period of Mr. Y = 14 years and 7 months

   • No. of working years = 14 years

   • Last drawn salary in last 10 months = Rs. 75,000

   Total Gratuity = Rs. 5,25,000

Income Tax Implications on Gratuity Policy

Income tax implications vary as per the following criteria:

Key Points to Consider about Gratuity

Mentioned below are some of the most significant points of gratuity:

1. Gratuity Limit:

   • According to the Payment of Gratuity Act 1972, an employer may pay more gratuity to their employees, still the gratuity amount cannot exceed Rs. 20 lakhs. 

   • Any amount that is more than Rs.20 Lakh is considered ex-gratia and is voluntarily given and is not enforced as per the law.

2. Rounding off Tenure:

   • If the tenure in previous employment is over 6 months, it is rounded up to the nearest figure. 

   • For instance, if the service period is 14 years and 7 months, gratuity is calculated for 15 years. 

   • Conversely, if the tenure is 14 years and 3 months, the calculation is based on 14 years.

3. Death of Employee:

   In case of an employee's demise, the heir or nominee follows gratuity rules for the entitlement.

4. Employer's Right to Reject:

   Employers can reject gratuity payments in cases of individual termination due to misconduct.

5. Forfeiture Conditions:

   Gratuity can be forfeited for specific reasons, as outlined in the gratuity rules, particularly in cases of employee termination.

6. Gratuity Obligation in Bankruptcy:

   Even during bankruptcy, organizations must fulfill their gratuity obligations. No court order has the authority to exempt employers from this responsibility.