In India, gratuity is a statutory benefit to the employees which can be given as a symbol of appreciation for continuous service to an organization. It is a lump-sum payment under the Payment of Gratuity Act, 1972, treatment of the payment as a key part of financial planning for an employee upon leaving a job. For both employers and employees, it is essential to understand the nuances of gratuity rules, eligibility criteria, ways of calculation, and tax-related matters.
Eligibility Criteria for Gratuity
An employee should have completed five years of continuous service with a particular employer to be eligible for gratuity under the provisions of the Payment of Gratuity Act, 1972. However, in the case where an employee dies or is rendered disabled due to an accident or disease, the completion of five years’ service condition does not apply.
This Act extends to a wide range of establishments such as factories, mines, oilfields, plantations, ports, railway companies, and any organization employing ten or more individuals. Once, an organization becomes covered by the Act, it continues to remain covered even if the number of employees falls below ten.
Calculating Gratuity
The manner of calculating gratuity will differ according to whether the specific employer is covered under the Payment of Gratuity Act.
Under the Act, gratuity is computed as:
Gratuity = (15 x Last Drawn Salary x Number of Completed Years of Service) / 26
For example, Last Drawn Salary for this purpose means Basic Salary and Dearness Allowance. This presumes payment of 15 days of wages for each completed year of service, within the scientific approximation of a month having 26 working days.
Thus, an employee last drawing ₹50,000 would receive this if he worked for ten years:
(15 × 50,000 × 10) ÷ 26 = ₹2,88,461.54
For employers that are not covered under the Act, this formula is altered as follows:
Gratuity = (15 x Last Drawn Salary x Number of Completed Years of Service)/(15 x 30)
This assumes a month consists of 30 days. Therefore, using the same figures as above:
(15 × 50,000 × 10) ÷ 30 = ₹2,50,000
Tax Treatment on Gratuity
The tax treatment of gratuities therefore depends upon the nature of service. In other words, in the case of government employees, gratuity is exempt from income tax completely, Therefore, in the case of non-government employees who fall under the Act, the least of the actual gratuity received by a person, ₹20 lakh (as amended per recent amendment), or the eligible gratuity as per the formula, would be exempt from tax. The excess amount will be taxed according to the individual’s own income tax slab.
Key Considerations
In gratuity calculations, if an employee has worked for more than six months in the last year of service, it is rounded off to the next complete year. Accordingly, 10 years and 7 months will be counted as 11 years, while 10 years and 4 months will be counted as 10 years.
Maximum gratuity shall be limited to ₹ 20 lakhs. Any amount above this is treated as ex-gratia and taxable.
The gratuity can be totally or partially forfeited in case of termination due to misconduct, moral turpitude, or any acts that cause financial loss to the employer.
Conclusion
Gratuity would act as an incentive for loyalty and longer service by employees towards a particular organization. Awareness of eligibility, accurate calculation, and tax rules would make things easy for both employers and employees on compliance and contribution. Current knowledge on the latest provisions under the Payment of Gratuity Act will aid employees in ensuring maximum benefits and will keep them protected from any sudden surprises during the exit process.