What is Gratuity?

Gratuity is a lump sum payment made by an employer to an employee as a token of appreciation for services rendered to the company. It is governed by the Payment of Gratuity Act, 1972, which applies to establishments employing 10 or more employees. Gratuity serves as a financial benefit for employees upon retirement, resignation, or in case of death or disability.

The gratuity payment is a statutory benefit, meaning it is a legal obligation for eligible employers to pay gratuity to their employees. This benefit provides financial security to employees after long-term service and is an important component of retirement planning.

Eligibility Criteria for Gratuity

To be eligible for gratuity payment, you must meet the following conditions:

• Minimum Service Period: You must have completed at least 5 years of continuous service with the same employer. However, this condition is relaxed in case of death or disability.
• Applicable Organizations: The Payment of Gratuity Act applies to factories, mines, oilfields, plantations, ports, railway companies, shops, and establishments employing 10 or more employees.
• Termination Events: Gratuity becomes payable upon superannuation (retirement), resignation, death, or disablement due to accident or disease.
• Continuous Service: If you have worked for 240 days in a year (190 days for seasonal establishments), it is considered as one year of continuous service.

How is Gratuity Calculated?

The gratuity calculation formula varies slightly between organizations covered under the Gratuity Act and those not covered. For organizations covered under the Act (most companies in India), the formula is:

Where:

• Last Drawn Salary: Basic salary + Dearness Allowance (DA) per month at the time of separation
• 15: Number of days of salary for each completed year of service
• 26: Number of working days in a month (as per the Act)
• Number of Years of Service: Completed years of continuous service (rounded to nearest year if completed months are 6 or more)

Example Calculation

Let’s say your last drawn basic salary + DA is ₹50,000 per month and you have completed 10 years and 8 months of service:

Tax Implications of Gratuity

The tax treatment of gratuity depends on whether you are a government employee, a private sector employee covered under the Gratuity Act, or working in a non-covered organization.

For Government Employees

Gratuity received by government employees (Central, State, or Local) is fully exempt from income tax under Section 10(10)(i) of the Income Tax Act.

For Private Sector Employees (Covered under Gratuity Act)

The exemption under Section 10(10)(ii) is the minimum of the following three amounts:

• ₹20,00,000 (statutory limit)
• Actual gratuity received
• Eligible gratuity calculated as: (Last drawn salary × 15 × years of service) / 26

For Employees Not Covered under Gratuity Act

The exemption under Section 10(10)(iii) is the minimum of:

• ₹20,00,000
• Actual gratuity received
• Half month’s average salary for each completed year of service (based on last 10 months’ average salary)

Gratuity vs Other Retirement Benefits

While all three benefits serve as retirement corpus, they have different purposes. Gratuity is a reward for long service, PF is a savings mechanism with employer matching, and pension provides regular income post-retirement. A comprehensive retirement plan should ideally include all three components.

Recent Amendments and Important Updates

2018 Amendment – Increased Maximum Limit

In March 2018, the government increased the maximum gratuity limit from ₹10,00,000 to ₹20,00,000. This amendment was introduced to provide better retirement benefits to employees and account for inflation since the last revision in 2010.

Maternity Leave Inclusion

The Maternity Benefit (Amendment) Act, 2017 increased paid maternity leave from 12 weeks to 26 weeks. This period is considered as continuous service for gratuity calculation purposes.

Forfeiture of Gratuity

Under Section 4(6) of the Payment of Gratuity Act, an employer can forfeit gratuity in the following circumstances:

• If the employee’s services have been terminated for any act of willful omission or negligence causing damage or loss to the employer’s property
• If the employee’s services have been terminated for riotous or disorderly conduct or any act of violence
• If the employee’s services have been terminated for any act constituting an offense involving moral turpitude, provided such offense is committed in the course of employment

Payment Timeline

As per the Act, gratuity must be paid within 30 days from the date it becomes payable. If the payment is delayed beyond this period, the employer is liable to pay simple interest on the gratuity amount for the delay period.

How to Claim Gratuity

The process of claiming gratuity is straightforward:

1. Application Submission: Submit Form I (Application for Payment of Gratuity) to your employer within 30 days of leaving the organization.
2. Nomination: Ensure you have submitted Form F (Nomination Form) during your employment. This is crucial as it designates who will receive the gratuity in case of your death.
3. Verification: The employer verifies your service period and calculates the gratuity amount.
4. Payment: The employer must pay the gratuity within 30 days from the date it becomes payable.
5. Dispute Resolution: If there is any dispute regarding gratuity payment, you can approach the Controlling Authority under the Payment of Gratuity Act within 90 days.

Special Cases in Gratuity Calculation

Death of Employee

In case of death during service, gratuity becomes immediately payable to the nominee or legal heir, regardless of whether the employee has completed 5 years of service. The calculation remains the same based on completed years.

Disability or Accident

If an employee becomes disabled due to an accident or disease during employment, gratuity becomes payable immediately, even if the 5-year service requirement is not met.

Fixed-Term Contracts

Employees on fixed-term contracts are also entitled to gratuity benefits on the same terms as permanent employees, provided they complete the eligibility criteria.

Part-Time Employees

Part-time employees are eligible for gratuity if they work 240 days or more in a year (or 190 days for seasonal establishments). The calculation is based on their actual salary drawn.

Frequently Asked Questions

Tips for Maximizing Your Gratuity Benefits

• Maintain Continuous Service: Ensure you complete the 5-year threshold with your employer to become eligible for gratuity.
• Understand Your Salary Structure: Only basic salary and DA are considered for gratuity calculation, not allowances like HRA, travel allowance, etc.
• Submit Nomination Form: Always fill and submit Form F to nominate who should receive your gratuity in case of unfortunate events.
• Keep Employment Records: Maintain copies of your appointment letter, salary slips, and relieving documents for smooth processing.
• Know Your Rights: Familiarize yourself with the Payment of Gratuity Act to ensure you receive your rightful benefits.
• Plan Your Taxes: If your gratuity exceeds the exempt limit, plan for the tax liability in advance.
• Claim Promptly: Submit your gratuity application (Form I) within 30 days of leaving the organization.
• Consider Long-Term Employment: Longer service periods result in higher gratuity amounts, making it beneficial to stay with good employers.

Conclusion

Gratuity is an important component of your retirement planning and serves as a financial cushion when you exit from employment. Understanding how gratuity is calculated, the eligibility criteria, and tax implications helps you plan your finances better. Use this calculator to estimate your gratuity amount and ensure you receive all the benefits you are entitled to under the Payment of Gratuity Act, 1972.

Remember that gratuity, along with other retirement benefits like Provident Fund and pension, forms a comprehensive retirement corpus. It is advisable to maintain good employment records, understand your rights, and claim your gratuity promptly upon exit from your organization.