After working for a company for years, you will learn about a “gratuity” whenever you leave or retire. A gratuity is usually an employer thank-you transaction for years of service. In case you work in the private sector of India there are particular rules as to how this particular gratuity is computed and when it could be received. This article describes what these details are so you understand what you should expect when it is time for your gratuity payment.
What’s Gratuity?
Gratuity is lump sum cash your employer pays you if you quit your job after working there for a specific amount of time, typically together with your retirement benefits. It is a way of saying thanks to the company for your service. The Payment of gratuity Act of 1972 provides the rules and calculations for Gratuity in India.
Who Qualifies for Gratuity?
You must have worked for the same employer continuously for more than 5 years to be eligible for gratuity. This is the basic requirement. However there are some exceptions:
– If a worker dies or becomes disabled because of illness or accident, the gratuity is paid out regardless of many years of service to the employee or even his nominee.
How Does Gratuity Work?
The calculation of gratuity might be complex but is really quite simple the moment you break it down. How it’s done:
1. The Formula
The gratuity amount is determined by dividing the Last Drawn Salary by 15, x Total Years of Service, by 26.
What each component means:
- Last Drawn Salary: This includes your basic salary plus dearness allowance if any.
- 15: Represents fifteen days salary.
- Total Years of Service: How many years you have worked for the employer.
- 26: The amount of working days in a month used in the calculation.
2. Rounding Off
In case you worked over six weeks during your last year, that year is a full year for gratuity calculation purposes.
For instance, in case you earn a simple salary of 30,000 and have worked ten years & seven weeks in a company, your years of service is rounded to eleven years. Your gratuity would be computed as follows:
Gratuity = (30000 * 15 * 11)/26 = 190,384 (190,384).
What is the Maximum Gratuity Limit?
The legal maximum Gratuity amount is 20 lakhs according to the Payment of gratuity Act. Above that is ex-gratia (voluntary contribution from employer, not mandated by law).
Tax Implications on Gratuity
The tax implications on gratuity can enable you to plan your finances better if you approach retirement. This is how gratuity is taxed for various kinds of employees:
1. Government employees
For government Employees, the situation is simple. Any gratuity received by central workers from the central, state, or local government is taxed. This means that regardless of the gratuity amount, it won’t be taxable income. This exemption applies to all employees of government contracts and offers a sizable benefit upon exit or retirement.
2. Private sector employees covered under the gratuity Act
Under the Payment of gratuity Act of 1972 the tax exemption on Gratuity is determined by a mix of 3 criteria, and the smallest quantity from these is tax-free:
- The actual gratuity the employee got.
- Twenty lakhs (the government’s present maximum limit).
- An amount equivalent to fifteen days salary each year of service (derived out of the last drawn income) for every year of service.
For instance, in case an employee gets a gratuity of 18 lakhs, and the formula using the fifteen days formula equals 16 lakhs (and also the cap is 20 lakhs), the exempt amount would be sixteen lakhs (it is the smallest of three).
3. Private sector Employees not Covered under the Gratuity Act
Employees in the private sector not covered by the Payment of Gratuity Act have slightly differing regulations regarding tax exemptions. The smallest of these is tax-free here:
- The actual gratuity received.
- Twenty lakhs.
- For each year of service finished, half a month’s wages are paid out.
This particular section of the law helps workers in smaller companies or organisations not protected by the gratuity Act to receive some tax relief on their Gratuity benefits.
What if You Leave Before 5 Years?
In case you quit before five years (minus death and disability), you generally will not be eligible for gratuity. Several companies will still leave a gratuity at their discretion – it isn’t required under law.
Using a Gratuity Calculator
A web based gratuity calculator can help to calculate your gratuity. Enter your previous drawn salary, years of service and dearness allowance (in case any) and the calculator will do the maths. This could be a handy tool to estimate gratuity while planning for retirement.
Conclusion
Your retirement benefits include a special component called gratuity due to your lengthy service. Learning how it is calculated, taxable and paid will help you prepare for retirement. Remember, gratuity is a large sum of money, which is best left in a larger retirement plan. Investing it or conserving it in safe financial products might offer a comfy retirement.
FAQs
1. How is gratuity computed in the private sector?
In the private sector, gratuity is calculated as follows (Last Drawn Salary 15 Total Years of Service)/26. The ‘Last Drawn salary’ includes basic pay along with dearness allowance and’ 15′ is half a month’s Salary for every year of service completed.
2. What are the new gratuity rules for private workers?
The significant change of gratuity guidelines is the increase in the maximum limit from ten lakhs to 20 lakhs from March 29, 2018. This particular enhancement applies to public and private sector employees alike.
3. What is the fundamental formula of gratuity?
The formula for gratuity is (Last Drawn Salary 15 Total Years of Service)/26. This particular formula is designed for personnel covered under the Payment of Gratuity Act of 1972.
4. How much gratuity (%) is added to the salary?
Gratuity is not rolled into a worker’s salary. It’s an employer benefit determined based on the worker’s previous drawn salary and total years of service.
5. What Labour law applies to gratuity?
The Payment of Gratuity Act, 1972 requires Gratuity Payment for employees that have served at the very least 5 years. The gratuity is set at 15 days’ earnings per year of service.
6. Is Gratuity a part of CTC?
Yes, gratuity is typically included in CTC in India. This is a statutory benefit given by employers in appreciation of service under the Payment of Gratuity Act, 1972.
