Everyone who works should be aware of the benefits they’re entitled to. Employees receive a monthly salary, various earned leaves, a provident fund, dearness allowance, gratuity, and insurance.
Among these benefits, gratuity is one of the most important. So, what exactly is gratuity? What qualifications are needed to receive it? How is it calculated? Let’s explore these questions.
What is Gratuity?
Gratuity is a lump sum given by an organization to an employee as a reward for faithful service of five or more years.
Organizations provide this gratuity to employees who retire, resign, or complete a specific service period. According to the Payment of Gratuity Act of 1972, organizations with at least 10 employees must pay gratuity.
Qualifications for Gratuity Eligibility
Employee Service Time: To be eligible for gratuity, employees must have worked continuously for an organization for five or more years. However, this requirement is waived if the employee dies or suffers a permanent disability while employed.
Applicable Employees: The Gratuity Act 1972 applies to factories, mines, plantations, shops, and other establishments with 10 or more employees. Gratuity can also be claimed in cases of retirement, resignation, dismissal, or permanent disability.
How is Gratuity Calculated?
Gratuity is calculated based on the employee’s last salary and length of service. There are different formulas for employees covered under the Gratuity Act and those who are not. Generally, employees who work for one year receive a gratuity equivalent to 15 days’ salary.
Gratuity Formula (for employees covered under the Gratuity Act):
Gratuity = {Last Drawn Salary (Basic Salary + Dearness Allowance)} x 15 x Number of Years of Completed Service / 26.
Example: If an employee named Ramesh has a last drawn salary (Basic Salary + Dearness Allowance) of Rs. 50,000 and has worked for 10 years, his gratuity calculation would be:
Ramesh’s Gratuity = ( 50,000 x 15 x 10 ) / 26 = Rs. 2,88,461.
For Employees Not Covered Under the Gratuity Act:
Gratuity = {Last Drawn Salary (Basic Salary + Dearness Allowance)} x 15 x Number of Years of Service Completed / 30.
Tax on Gratuity
Government employees are exempt from tax on gratuity, meaning there is no tax on this amount for central and state government employees. As per the current law, gratuity amounts received up to Rs. 20 lakhs are tax-exempt.
For Employers Not Covered Under the Gratuity Act: Employees working for companies not covered can avail tax exemption based on the following options, with the lesser amount being considered as the exemption:
- Actual gratuity received
- Rs. 20 lakhs
- Gratuity is calculated using the formula
Important Points to Remember
- Gratuity is not deducted from the employee’s salary; the company funds it.
- Employees working in an organization for five years or more are eligible for maternity and paid leave.
- Employees can nominate a family member for gratuity benefits.
- In cases of death or disability, while the employee is still working, the five-year service requirement is waived, and gratuity is provided to the nominee.
Understanding these aspects of gratuity can help employees make informed decisions about their benefits and entitlements.