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. However, gratuity benefit is offered to those employees who have been associated with the company for a minimum of five years. In this way, gratuity can be perceived as a gesture of gratitude by a company towards its employees for the services. Gratuity is governed by the Payment of Gratuity Act of 1972.

Eligibility Criteria for Payment of Gratuity?

In order to receive gratuity benefits, the following eligibility criteria must be fulfilled:

• One must be eligible for superannuation.

• One should have retired from service.

• One should have performed continuous employment for five years with the company.

• In case of death, the gratuity is paid to the nominee.

Gratuity Rules in India

Mentioned below are the gratuity rules:

1. Gratuity Payment Timeline

   The basics that are involved in the payment of gratuity benefits are:

   1. Initial

      An authorized person has to send an application to the employer regarding the gratuity payment.

   2. Acknowledgment & Calculation

      As soon as the company that owns the gratuity receives an application, it starts calculating the gratuity benefits. With this, the company also provides notice for the same to the Gratuity seeking employee and the controlling authority with the specification of the gratuity amount.

   3. Disbursal

      After sending the acknowledgment, the employer gets 30 days to pay the amount of gratuity to the employee.

2. Forfeiture of Gratuity

   As per the Payment Gratuity Act 1972, an employer may forfeit the gratuity payment of the employees, either partially or wholly, despite the fact they have completed five or more years in the service of the company. However, the only time this situation occurs is the employee's termination because of undisciplined conduct in which they have tried to harm the individuals during employment physically.

How is Gratuity Calculated

If one is eligible for payment of gratuity, one must first check how much they are eligible for. Based on the gratuity rules in India, there are several gratuity calculators available online to calculate the gratuity amount based on the below formula.

Gratuity = (15 X Your last drawn salary X Number of working years) / 26

However, the following points must be considered:

• As per the Payment Gratuity Act 1972, the amount of gratuity cannot be more than Rs 20 lakh. Any amount above this would be treated as ex-gratia.

• If the number of years in the previous employment is more than 6 months, it would be rounded off to the next nearest figure. For example, if the tenure of service is 14 years and 7 months, the gratuity would be calculated for 15 years. If the tenure of service is 14 years and 3 months, the gratuity would be calculated for 14 years. 

• If the employer is not covered under the Payment of Gratuity Act, 1972, the gratuity amount is calculated based on the half-month salary on each completed year of service. The formula is:

  • Gratuity= (15 X Your last drawn salary X the working tenure) / 30.

Tax on Gratuity

Tax on gratuity is levied as it is viewed as a part of the salary. The tax on gratuity amount depends on the type of employee who has to receive the gratuity.

• As per Article 10 (10) I of the Online Income Tax, the tax on gratuity received on the gratuity payment by a government employee, except for the statutory corporation, is completely exempt.

• As per Income Tax Act's Article 10 (10) ii, the death or/ and retirement gratuity receivable by an individual who is covered under the Gratuity Act 1972 is considered as the minimum amount of the below-mentioned that is exempted from the tax:

  • Rs. 20 lakh

  • The actual amount of gratuity received

  • The eligible gratuity.

For example, if your employer had paid you a gratuity of Rs 10 lakh, and as per the calculation, the eligible amount of gratuity is Rs. 3 lakhs. The government has set Rs 20 lakh as the upper tax-free limit. The lowest of the three figures is Rs. 3 lakhs, which is exempt from tax. You must pay tax on the remaining amount of Rs 7 lakhs as per your income tax slab.

• As per the Income Tax Act's Article 10 (10) iii, the exemption for gratuity payment received by an employee who does not get coverage under Gratuity Act 1974 are: 

  • Half month's average salary x completed years of service

  • Rs. 10 lakhs

  • The actual amount of gratuity received

Where *Average Salary = Average Salary of the last ten months immediately after the month of retirement.

In the Interim Budget of 2019, the interim finance minister, Mr. Piyush Goyal, announced the existing tax-free gratuity limit to be increased to Rs.30 lakhs.

Gratuity Calculation Example

To understand the calculation of gratuity, let us take an example. For example, Sumit is a software engineer and is working for an IT firm. In his 20 years of employment with the same organization, Sumit has had the previous month's basic salary plus DA salary as Rs. 25,000. In this case, the gratuity benefit amount that Sumit will get is:

Gratuity amount for Sumit = 20*25, 000*15 / 26 = Rs. 2, 88,461.54

Even though an employer may pay more gratuity to their employees, the gratuity amount cannot exceed Rs. 20 Lakhs as per the Gratuity Act. 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.

Some Points about Gratuity

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

• An employee can get a gratuity of a maximum of Rs. 20,00,000. In this case, the tax on gratuity will be calculated as per the points listed under taxation.

• In the situation of the death of an employee, the heir or nominee of the employee gets the gratuity as per the gratuity rules.

• The employer always has the right to reject the gratuity payment in case of the termination of an individual due to some misconduct.

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