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How To Calculate Gratuity?

IndianMoney.com Research Team | Updated On Thursday, October 18,2018, 05:05 PM

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How To Calculate Gratuity?

 

 

You work very hard in office and reap the benefits of hard work. You enjoy a high salary, pay hikes and even a bonus. Yes, your boss recognizes the effort put-in and rewards you with perks and benefits. The employer gives you a gratuity, if you complete 5 years of service in your Organization.

What is gratuity? Gratuity is the money given by your boss/employer, for services rendered to the Organization. Gratuity is usually paid at retirement, but may be paid before, if certain conditions are met.

You are eligible for a gratuity, if you complete 5 years of service with your Organization. Employees are paid the gratuity even before 5 years, on disability in an accident or if he suffers from a major disease. On death of an employee, the family gets the money.

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What Is Gratuity?

Gratuity is a monetary benefit given by the employer to an employee for his service to the organization. It is usually paid at the time of retirement but it can be paid even before that, provided certain conditions are met. An employee is eligible for gratuity only after he completes 5 years of employment with the same organization. It can also be paid before the completion of 5 years, in case of disability which renders the employee unable to work, or on his death to his nominees.

The law has not stipulated any set percentage, for the amount of gratuity your employer needs to pay you. Your employer can use a formula-based approach, or pay you even more than this.

Gratuity depends on two main factors:

The last drawn salary and the years of service.

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1. How is gratuity payable?

To calculate how much gratuity is payable, you need to understand the Payment of Gratuity Act, 1972. This act divides Non-Government employees into 2 types:

  • The employees covered under the Act.
  • The employees not covered under the Act.

If your Organization has 10 or more employees even for a single day in the last 12 months, you are covered under the Act. If an Organization comes under this Act, this Organization will always remain covered, even if the number of employees falls below 10.

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2. How is gratuity calculated?

For Private Sector Employees, gratuity is calculated based on whether they are covered under the Gratuity Act or not.

1. For private sector employees covered under the Payment of Gratuity Act, 1972, gratuity is calculated as follows:

Salary at the time of retirement X Completed years of service X 15/26

For calculating completed years of service, if no of months worked is 6 months or more, then it is considered as one completed year.

2. For private employees not covered under Payment of Gratuity Act (receiving gratuity as per terms of contract), the following formula is used:

Average Salary X Completed years of service X 15/30

Average Salary = Average Salary of last 10 months immediately preceding the month of retirement. Completed years of service is same as above.

This formula will help you calculate the gratuity.

Check this formula

(15 * Last Drawn Salary * Tenure of Working)  /  26.

The last drawn salary is the basic salary, dearness allowance and the commission received on sales.

This example will help you calculate gratuity for employees covered under the Act.

Let’s say Mr X has worked for Company ABC and his last drawn salary is Rs 50,000. Mr X has worked in this Company for the last 19 years and 8 months.  We will calculate his gratuity.

= (15 * 50000 * 20) / 26 =  Rs 5,76,923.

Please Note: We have taken 19 years and 8 months as 20 years for the tenure of service, because Mr X has worked for more than 6 months in that year.

This example will help you calculate gratuity for employees not covered under the Act.

Let’s take the same example and consider that Mr X Company, is not covered under the Act. Then take a look at how gratuity is calculated.

= (15 * 50000 * 19) / 30 = Rs 4,75,000.

In this case the number of years of service is taken on the basis of a completed year. Mr X has worked for 19 years and 8 months and the tenure is 19 and not 20 years.

Yes, you have worked hard and are ready to reap the benefits of this hard work. You have earned the gratuity and also learnt how to calculate it.

Taxation of Gratuity

1. For employees covered under Gratuity Act

Exemption on gratuity is least of the following:

  • Maximum limit of Rs 20,00,000 as set by the government
  • Last drawn salary X completed years of service X 15/26
  • Gratuity actually received

2. For employees not covered under the Act

Exemption limit is the least of the following:

  • Average Salary X completed years of service X 15/30

(Avg Salary = Avg of salary for 10 months immediately preceding the month of retirement)

  • Maximum limit of Rs 20,00,000 as set by the government
  • Gratuity actually received

How to Calculate Gratuity in CTC?

CTC (Cost to Company) is the total cost a company would have to incur when hiring an employee. It is the cost incurred for hiring and sustaining the services of an employee. CTC breakup differs from company to company, and each company has its own structure and salary components. Gratuity is a contribution made by the employer. Contributions are made by the employer for employee’s long term saving schemes or social benefits scheme, in compliance with the law. Gratuity is the statutory liability of the employer, hence, it is included in CTC at 4.81% of Basic Salary. Basic salary is the actual pay received by employees, for rendering services to the company. It is paid out every month and is a taxable component of salary.

What is Dearness Allowance?

Dearness Allowance or simply DA, is a component of salary which is a fixed percentage of the basic salary. This part of salary is aimed at compensating the impact of inflation. Dearness Allowance is directly related to the cost of living, therefore it is different for employees living in different locations. Dearness Allowance is paid out every month and is a taxable component of salary.

Gratuity Rules in India

Prior to 1972, it was not mandatory for employers to pay gratuity. In 1972, the government enacted the Payment of Gratuity Act, which made it mandatory for the employers to pay gratuity at the time of retirement, or earlier, subject to conditions. Not all companies come under the purview of this Act. An organization will come under the purview of the Act, if it has 10 or more employees on any day in the preceding 12 months. Once the company comes under the Act, it will remain covered, even if the number of employees drops below 10. For companies that are not covered under the Act, payment of gratuity is left up to the choice of the employer.

As per the Act, an employee is eligible to receive gratuity if he has rendered continuous service for the last 5 years at the same organization. Gratuity is payable at the time of his retirement or resignation. In case the employee’s services are terminated due to his death or disability, the employer must pay gratuity to him or his nominees. If the nominee is a minor, then the money shall be invested in his name in a term deposit with State Bank of India or any Nationalised Bank till he becomes a major.

An employee can make a claim for payment of gratuity within 30 days from the date that it becomes payable. The application can be made 30 days prior to the date of retirement, if the date is known. If the claim is made after the specified period, and the employee can furnish a valid reason for the delay, the employer cannot reject the claim and must pay gratuity. The employer must specify the amount payable and the date of payment within 15 days of receipt of application. Payment of gratuity must be made within 30 days from the date of receipt of application. In case the application is rejected, the employer must specify the reason for rejection.

The employee or his nominee can file a complaint with the Assistant Labour Commissioner, in case of dispute under the following reasons:

  • If the employer fails to specify the amount payable, or fails to make payment within the specified time.
  • If the employee feels that the amount of gratuity paid is less than what must be paid.
  • If the employer refuses to accept the application for payment of gratuity.

The complaint can be filed within 90 days from occurrence of the event. If the employee fails to file a complaint within this period, but gives a valid reason, the complaint will be accepted.

Forfeiture of Gratuity

The employee can forfeit his gratuity in part or in full. Gratuity Act states that if the employee’s services are terminated for any act, wilful omission or negligence causing damage, loss, or destruction of property of the company, the employee’s gratuity shall be forfeited to the extent of the damage or loss.

Gratuity in its entirety can be forfeited if an employee’s services are terminated due to:

  • Riotous or disorderly conduct, or any violent act
  • Committing an offence involving moral turpitude

Eligibility for Gratuity

As per the Gratuity Act, a company having 10 or more employees on any given day in the previous year, falls under the purview of the Act and is mandated to pay Gratuity. Once the company falls under the purview of the Act, even if the number of employees falls below 10, it stays under the Act and must continue to pay gratuity. Temporary staff, contract workers and so on are also eligible for gratuity, as long as they are considered employees of the company. Employees who are transferred overseas are also eligible. However, apprentices and interns are not eligible.

An employee is eligible for gratuity if he has completed a minimum of 5 years in the organization. One year is calculated as a minimum of 240 working days for employees working above ground, and 190 days for employees working below ground (like mines). If the employee has worked 6 months or more in a year, at the time of termination of employment, it is rounded off and counted as one completed year.

For example, a person who has worked 7 years and 8 months, for the purpose of gratuity calculation, it is taken as 8 years of employment.

The 5 years of continuous service, if interrupted on account of the following, is allowed - Sickness, accident, leave, layoff, strike, lockout, cessation of work not due to fault of employee.

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