Gratuity Payments: A Complete Guide

Gratuity is a monetary benefit or perquisite awarded by an employer to his/her employee for the services rendered by them over a period of time. It is a lump sum payment made generally at the time of retirement of an employee. In India payment of gratuity is mandated under the Payment of Gratuity Act, 1972. The Act is a social security legislation adopted by the government to secure financial stability of employees and their dependants post retirement. The Act has witnessed numerous amendments the latest being in March, 2018. 

This Blog is bifurcated under various headings for the convenient and thorough understanding of the concept of gratuity.  

Is the Act Applicable to You? 

Gratuity under the Act shall be payable by every factory, mine, oilfield, plantation, port, shop or establishment which employ 10 or more persons. The word “establishments” covers all establishments that are covered under the Shops and Establishments Act of each state.

Which Employees are eligible for Payment of Gratuity?

Only those employees who have rendered continuous service for a period of not less than five (05) years shall be eligible to receive gratuity from their employers, at the time of termination of employment by reason of resignation or retirement.

Note: If the services of an employee are terminated  before the period of 5 years on account of either death or disability then, in such cases the rule of continuous service shall not apply and the amount of gratuity shall be paid irrespective of whether five years have been completed. 

The concept of “Continuous Service”

Gratuity is payable only to employees who have been in continuous service for a period not less than five (05) years. While calculating continuous service the days on which the employee did not attend work on account of accident, sickness, leave, Lay-off, Lockout, strike or cessation of work, not due to the fault of the employee shall be considered. This simply means that all of the days mentioned above shall be considered/added while calculating continuous service.

In case of women, the period of continuous service should also include the Maternity leave afforded to them. The Payment of Gratuity Act has amended its provisions in consonance with the Maternity Benefit Amendment Act (2017) which enhanced maternity leave from 12 weeks to 26 weeks. https://www.legawise.com/giving-maternity-leave-and-benefits Therefore, while calculating the period of continuous service of a female employee who has availed maternity leave, the 26 weeks leave period shall be considered or added to the continuous service period.   

When and how is the gratuity payment made? 

Every employee who has rendered his service for a continuous period of not less than five (05) years shall be eligible to receive gratuity upon termination of his/her employment, irrespective of whether such termination is on account of superannuation, retirement, resignation or death or disablement due to accident or disease. 

Incase of death of an employee the amount of gratuity payable to the employee shall be paid to his nominee. If the employee has not nominated any person then the gratuity shall be payable to his/her legal heirs. 

The employer must arrange for the amount to be paid as gratuity within 30 days from the date on which it becomes payable, failure to comply with this condition within the stipulated time frame would warrant payment of simple interest on it from the date on which the gratuity becomes payable. 

Maximum Amount of gratuity payable

The Act stipulates an upper ceiling on the payment of gratuity. The maximum gratuity payable under the Act is Rs. 20,00,000. This amount has been enhanced via the Payment of Gratuity (Amendment) Act, 2018. The earlier ceiling of gratuity payable was Rs. 10,00,000. These changes were effected, owing to the inflation and wage increase of employees engaged in the private sector. 

Note: This provision does not in any manner stop the employer from awarding a higher amount of gratuity to his employees. 

Forfeiture of gratuity

The employee shall have to forfeit his gratuity upto the extent of the damage or loss caused if his/her employment has been terminated for any act, willful omission or negligence which has resulted in damage or loss to or destruction of property belonging to the employer. An employee may have to partially or wholly forfeit the gratuity payable to him/her if the employees services are terminated for his riotous or disorderly conduct or any other act of violence on his/her part or any act in the course of his/her employment which constitutes an offence involving moral turpitude. 

Formula for Calculation of gratuity

The formula to calculate gratuity is well established under the Act. 

Gratuity = Last Drawn Salary x 15/26 x number of years of service.

Example 1: If Rashi has worked in an establishment for 25 years and her Last Drawn Salary is Rs. 1,50,000/- per month. 

Gratuity payable to Rashi = 1,50,000 x 15/26 x 25

= 21,63,461/- 

Note: Even though the amount of the gratuity is more than 20 lakhs, Rashi shall be eligible to receive only Rs. 20,00,000/- which is the maximum amount stipulated under the Act. 

Example 2:  If Ruchi has worked in an establishment for 6 years and her Last Drawn Salary is Rs. 50,000/- per month.

Gratuity payable to Ruchi     = 50,000 x 15/26 x 6

                                             = 1,73,076/- 

Note: Even though the stipulated ceiling of Gratuity payable under the Act is Rs. 20,00,000/- Ruchi shall be eligible only to Rs. 1,73,076/-. 

Note: Last Drawn Salary = Basic Salary+Dearness allowance  

Tax Exemptions

Since Gratuity is provided as social security to employees it is exempted from their taxable income under Sec. 10(10) of the Income Tax Act, 1961. But this exemption is also limited to a maximum of Rs. 20,00,000/- if the amount of Gratuity exceeds the ceiling of Rs. 20,00,000/- it shall be taxable. 

For e.g: If Rachel’s boss gives her a gratuity of Rs. 22,00,000/- than only Rs. 20,00,000 shall be exempted from income tax, while the remainder of Rs. 2,00,000/- shall be taxable income.

Consequences of Non-Compliance with the Gratuity Law

Failure to comply with any of the provisions of the Act would warrant imprisonment for a term which may extend to one year (01) and penalty which may extend to Rs. 20,000/- or both.