Gratuity Calculation for payment to employees
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Why Gratuity?
In India, Gratuity is paid under the provisions of Gratuity Act 1972. “The Payment of Gratuity Act 1972 (39 of 1972) came into force on 16-September-1972.
"As per the Gratuity Act, employer who employs ten or more than ten employees on any day of proceeding one year need to pay gratuity to his employees. The employees or workers employed in every shop, educational institution, establishment and factory; irrespective of salary, status and post are eligible for gratuity on completion of five years of service. There is no minimum eligibility period for an employee in case of disablement or death. The establishment, factory or shop comes under this act shall continue to governed by Payment of Gratuity Act 1972 even the strength of his workers or employees fall below ten".
Eligibility
As per Sec 10 (10) of Income Tax Act, gratuity is paid when an employee completes 5 or more years of full time service with the employer (minimum 240 days a year).
Calculation of Gratuity amount
The amount payable to an employee under Gratuity Act 1972 is calculated on the basis of fifteen days wages for every completed year of service. The figure of day wages the figure of wages last drawn by the employee.
Gratuity = Last Wages *15 * No of years of service/26
For instance, if your average monthly salary is Rs 50,000, the gratuity payable to you after 10 years of service would be Rs 290,000.
When payable?
- On his superannuation; or
- On his resignation or retirement; or
- On his disablement due to disease/accident or death. (continuous service of five years is not applicable in this case)
Who pays the Gratuity?
An employer may offer gratuity out of his own funds or may approach a life insurer in order to purchase a group gratuity plan. In case the employer chooses a life insurer, he has to pay annual contributions as decided by the insurer. The gratuity will be paid by the insurer based upon the terms of the group gratuity scheme.
Tax treatment of Gratuity
The gratuity so received by the employee as well as nominees/legal heirs is taxable under the head ‘Income from salary’. This tax treatment varies for different categories of individual assesses. For the purpose of calculation of exempt gratuity, employees may be divided into 3 categories –
1. Government employees
2. Non-government employees covered under the Payment of Gratuity Act, 1972
3. Non-government employees not covered under the Payment of Gratuity Act, 1972
Tax Exemptions:
1. In case of government employees – fully exempt from receipt of gratuity.
2. In case of non-government employees covered under the Payment of Gratuity Act, 1972 – Maximum exemption from tax is least of the 3 below:
- Actual gratuity received;
- Rs 10,00,000;
- 15 days’ salary for each completed year of service or part thereof
3. In case of non-government employees not covered under the Payment of Gratuity Act, 1972 – Maximum exemption from tax is least of the 3 below:
- Actual gratuity received;
- Rs 10,00,000;
- Half-month’s average salary for each completed year of service (no part thereof)
Points to remember
• Even in case gratuity is received from more than one employer during the previous year, maximum exemption allowed is up to Rs 10,00,000.
• Where employee has already claimed gratuity exemption in any previous year (s), the maximum exemption amount allowed for the current previous year i.e. Rs 10,00,000 will be reduced by the amount of deduction already claimed in the previous years.
• In case of an employee who is employed in a seasonal establishment ( not employed throughout the year), the gratuity exemption shall be for seven days wages for each season.
This is only an illustrative narration and for full details, please refer to "Payment of Gratuity Act 1972".
