What is gratuity and how it is calculated?

What is gratuity and how it is calculated?

 

What is gratuity and how it is calculated?

Gratuity is the form of gratitude provided to employees in monetary terms for services rendered to the company. It is the important form of social security benefit provided as per the Gratuity Act. Employees would get benefited through Gratuity when they stay longer period in a company. In this article I would detail about what is a gratuity, who is eligible for gratuity payment, how it is computed and how gratuity is taxed.

 

Who is eligible for gratuity payment?

An employee is eligible for gratuity, if he/she has completed 5 years of completed service with the company. However in case an employee expires, this 5 years is relaxed and he would be paid for every 1 year completed service. Please note that the company needs to have at least 10 employees so that they can pay gratuity to eligible employees.

 

When is gratuity payable or paid?

Eligible employees would be paid a gratuity in case of resignation, retirement or superannuation or death.

 

How Gratuity is computed?

Gratuity is paid for 15 days of every completed year of employment after 5 years of service. If you have worked for more than 6 months in a year, it would be treated as 1 completed a year. Means if you worked for 5 years 6 months, you are eligible for 6 years gratuity. However if you worked for 5 years 5 months, you are eligible only for 5 years gratuity. Below is the method of computation

·        Gratuity paid for 15 days for every completed year of service

·         Your last drawn basic salary + DA will only be considered for computation

·         Number of working days would be considered as 26.

 

15 days x no. of years completed

Gratuity payable = ——————————————-

26 (working days)

e.g. if you have basic salary + DA as Rs 40,000 per month and you worked for 5 years 6 months which is equivalent to 6 years. Below is the computation of gratuity.

   15 x Rs 40,000 x 6 (years)

Gratuity = ——————————– = Rs 138,641

                               26

 

Tax treatment of gratuity income

For the purpose of gratuity taxation, employees are divided into 3 categories. Govt employees, other employees who are covered under the payment of gratuity act and other employees who are not covered under the payment of gratuity act.

 

a) Govt employees: Gratuity is fully exempted from tax for all Government employees.

 

b) Other employees who are covered under the payment of gratuity act: Least of the following is exempt from income tax

·        15 days of salary for every completed year of service (Including part thereof)

·        Rs 10 Lakhs

·        Actual gratuity received

 

Illustration: An individual who has Rs 40,000 as basic + DA per month and who has finished 5 years and 6 months would get gratuity Rs 40,000 x 6 x 15/26 = Rs 138,641

c) Other employees who are NOT covered under the payment of gratuity act: Least of the following is exempt from income tax

·        Half month average salary for every completed year of service (average salary is arriving for the basic salary+ DA received in the last 10 months). Part of the year would be ignored

·        Rs 10 Lakhs

·        Actual gratuity received

 

Illustration: An individual who has Rs 40,000 as basic + DA per month in the last 10 months and who has finished 5 years and 6 months would get gratuity Rs 40,000 x 5 x 15/26 = Rs 115,384 In case an employee has claimed gratuity exemption earlier, the amount would be reduced from current amount and the maximum eligible exemption would be Rs 10 Lakhs only