What is gratuity?

What is gratuity? Gratuity is one of the retirement benefits or for long service an employer offers to an employee upon leaving a job. It is a sum voluntarily paid by the employer to the employee at the end of his/her employment as a tip for contributing to the company.

Gratuity is not paid as part of the regular monthly salary. The Payment of Gratuity Act of 1972 governs the provision of gratuity in India.

Who is eligible for gratuity?

An employee working in a mine, factory, oilfield or railway, port, plantation, any organizational establishment or educational institution that employs 10 workers or more at any time in the previous 12 months qualifies for gratuity entitlement.

Once the act becomes applicable, gratuity is still applicable even if the number of employees is reduced below 10.

The employer will pay gratuity when the employee satisfies the following conditions:

• The employee should be drawing wages as a full-time employee of an organisation. An apprentice is not eligible to receive gratuity.
• The employee should be in continuous service for at least 5 years.
• Under some conditions, if an employee is quitting employment, retiring, having an accident, or getting a clinically increasing sickness, even dying, he would receive gratuity as well. In the event of the death of an employee, gratuity received by such employee can be paid voluntarily to the nominee.

How to calculate continuous services?

Gratuity key points an employee must remain in continuous employment, but any leave period or non-resumption of duty, which is not the fault of the employee is disregarded, so such periods in case of maternity leaves are also eliminated.

How to calculate one complete year of service?

If tenure is more than six months in the last year, round up to the next year.

The Supreme Court has held that if an employee has completed 240 working days in 5th year, then he will be eligible for Gratuity. Thus, even if an employee had been laid off after he has completed said period of 240 days in 5th year, he would be eligible for gratuity.

Taxability of gratuity / What are the taxes on gratuity?

Entire amount received as gratuity is taxable as per income tax act, 1961.

Exemption under gratuity

There are certain exemptions that are available while calculating taxable gratuity under the Income Tax Act, 1961 which can be categorised as follows:

Explanation

• Salary-
  the term ‘salary’ for the purpose of income tax act, 1961 will include basic salary and dearness allowance but excludes bonus, commission and any other allowances.
• Dearness allowance (DA)-
  dearness allowance is a cost-of-living adjustment that the government pays to public sector employees and pensioners. It is calculated as a percentage of the basic salary to curb the effect of inflation.

Additional notes / Special cases in gratuity:

• Where gratuity is received from 2 or more employers in the same previous year, then, aggregate amount of gratuity exempt from tax cannot exceed Rs. 20,00,000.
• Where gratuity is received in any previous year from former employer and again received from another employer in different previous year, the limit of Rs. 20,00,000 will be reduced by amount of gratuity exempt earlier.
• Exemption under section 10 (10) would be available to an assessee irrespective of the regime under which he pays tax.
• Entities must disburse gratuity amount within 30 days from the date of full and final settlement of the employees.