When it comes to loyalty, many people believe that it goes unrewarded, but that’s not always the case in the world of work. If you stay invested in your job for the long-term, your employer may show their appreciation through monetary benefits like gratuity.
Gratuity is often seen as a token of the company’s acknowledgment for your years of service, especially after reaching retirement or completing the required years of service. It can act as a form of investment that helps build your wealth or corpus over time.
While the term gratuity may seem familiar, it often comes with some confusion. Many employees are unsure whether their employer is required to pay it or if it’s optional. Additionally, some might wonder whether the employer’s contribution comes from their own pocket or if there is an employee contribution involved.
Gratuity is a form of superannuation, which is a retirement benefit, and the amount is typically calculated based on the number of years worked and the last salary drawn. In some cases, it can even be paid out earlier than expected if certain conditions are met, allowing the employee to derive benefits from it before reaching the golden years of retirement.
What is Gratuity
Gratuity is a monetary reward given by employers to employees as a token of appreciation for their long-term service. It is governed by the Payment of Gratuity Act, 1972, making it a legal obligation for employers in countries like India and the UAE. This gratuity serves as a financial thank-you for an employee’s dedication and loyalty to the organization.
It can be paid directly from the employer’s funds or through an insurance plan that disburses the payment once the employee qualifies and becomes eligible after completing five years of continuous service with the same employer.
Gratuity is often provided at retirement or in cases of resignation after the stipulated period of service, but it can also be given in unfortunate events like death or disability. The amount can be paid as a lump-sum, reflecting the employee’s valuable contribution and the recognition the employer gives for the work done.
The gratuity amount is calculated based on the required period of service and can enhance the employee’s retirement planning.
How Gratuity Works?
When an employee joins a company, they are automatically enrolled in the organization’s gratuity scheme. The employer either contributes directly to this scheme or partners with a life insurance company to manage it. Upon completing the required years of service, the employee receives a one-time lump-sum payment.
However, if the employee leaves before meeting the eligibility criteria, they may forfeit the gratuity amount, as it’s typically only provided after fulfilling the service requirements.
Eligibility Criteria for Gratuity
To be eligible for gratuity, an employee must have completed five years of continuous service with the same employer. This benefit is usually granted upon retirement or superannuation, but it also applies in cases of resignation after fulfilling the service requirement. If the employee leaves the organization before meeting this, they may not qualify.
Gratuity is also available to nominee in cases of death or disability. For example, if an employee passes away or suffers from an accident or illness, the payment will be made to the nominee. This ensures that even if an employee retires, resigns, or passes away, their gratuity can still be paid out.
Is Gratuity Taxable? And how to calculate?
Gratuity is considered part of an employee’s income, which means it is taxable. For instance, if your salary is ₹6 lakh per annum and you receive a gratuity of ₹1.5 lakh, your total income for that year will be considered ₹7.5 lakh and taxed according to the applicable tax slab or bracket.
However, government employees enjoy an exempt status, meaning their gratuity amounts are free from income tax deductions. On the other hand, for private company employees, exemptions apply based on certain limitations.
The Gratuity Act sets the values for gratuity tax exemptions. For employees of private organisations covered under the Act, the gratuity amount is exempt up to ₹20 Lakhs. However, it gets taxed if it exceeds this amount.
For those working in companies not covered by the Act, the exemptions are based on the lesser of these three: a gratuity of ₹10 Lakhs, actual gratuity received, or fifteen days of salary for each completed year of service. If applicable, the salary is calculated as a half-month’s pay, based on the average of the last ten months’ salary.
Here’s the calculation
Annual Salary: ₹6,00,000 (INR) or AED 27,000 (AED)
- Gratuity Received: ₹1,50,000 (INR) or AED 6,750 (AED)
- Total Income for the Year: ₹7,50,000 (INR) or AED 33,750 (AED)
Calculating Gratuity for Employees Covered Under the Act
The gratuity amount for employees covered under the Payments of Gratuity Act is calculated using a standard formula that has remained unchanged over time. For instance, if an employee has served the company for ten years and has a last salary of ₹60,000 (including dearness allowance), we can use the formula: N x B x 15/26, where N represents the number of years worked, and B is the last salary.
In this case, the gratuity would be ₹3,46,154 (calculated as 10 x ₹60,000 x 15/26). This ensures that employees are fairly compensated based on their years of service and their final salary figures. Employees may also want to consider the conversion to AED for understanding the value in another currency.
Calculating Gratuity for Employees Not Covered under the Act
For employees working with organisations that are not covered under the Payments of Gratuity Act, the gratuity is calculated differently. The formula used is based on half month’s salary for each year of service. This salary includes basic pay, DA, and commissions. For example, if the salary is ₹40,000, the gratuity for six years of service would be ₹1,20,000 (calculated as ₹40,000 x 0.5 x 6 years).
After rounding according to the norms, the gratuity amount remains the same, i.e., ₹1,20,000. When converted to AED, the gratuity would be AED 5,400.
Calculating Gratuity for Deceased Employees
Employee, passes away, gratuity, amount, calculated, service, years, upper, cap, ₹20 Lakhs, nominee, dependent, table, clearly, states, due, half, basic, salary, 6, months, employment, more, 33, times.Employee, passes away, gratuity, amount, calculated, service, years, upper, cap, ₹20 Lakhs, nominee, dependent, table, clearly, states, due, half, basic, salary, 6, months, employment, more, 33, times.
What is Gratuity Forfeiture?
Gratuity forfeiture happens when an employer decides to forfeit either a part or the full amount of gratuity. This typically occurs if an employee’s employment is terminated due to disorderly conduct that injures a fellow employee. In such cases, the forfeitures are applicable and the gratuity is not paid out as a penalty for the misconduct.
How & When Gratuity is Paid Out?
To claim your gratuity amount, you need to fill out an application form and submit it to your employer. The employer will then assess the details and compute the gratuity. Once that’s done, the employer will notify the paying authority, and the gratuity will be disbursed within 30 days. You will also receive an acknowledgement when the gratuity is paid out to you.
Frequently Asked Questions
What is the maximum amount of gratuity an employee can receive?
The maximum amount of gratuity an employee can receive has been revised with a recent amendment to the Payment Act. For private sector employees, the cap on gratuity is now ₹20 Lakhs (which is AED 90,000). Earlier, the maximum payable gratuity was ₹10 Lakhs (or AED 45,000). This change allows employees to receive more if they have been with the company for many years.
When is the gratuity amount payable to an individual?
The gratuity is payable to employees once they have completed five years of continuous service with a company. It is also applicable when an employee is retiring or receiving superannuation benefits. However, it can also be paid in cases of resignation after the required service, or if the employee passes away or becomes disabled due to injury or illness.
Can gratuity be paid with salary or deducted from it?
While gratuity is not typically paid as part of your salary, it is often calculated based on your final salary and settlement. In some cases, employers may cut the salary to deduct the gratuity amount, based on the company’s salary structure.
Is gratuity compulsory for all employers?
Yes, the Payment of Gratuity Act mandates that employers in certain sectors, like mines, oilfields, railways, factories, and shops, must provide gratuity to employees. This compulsory legislation ensures that workers are entitled to these benefits when they meet the eligibility criteria.
Can employees withdraw gratuity early?
If you are eligible, you can apply to withdraw your gratuity by submitting a claims form. You must do this within thirty days from when the gratuity becomes payable.
How is gratuity calculated?
Gratuity is typically calculated using a straightforward formula: N x B x 15/26, where N is the number of years worked, and B is the basic salary including dearness allowance. This formula helps ensure that the gratuity amount is fairly calculated based on the employee’s service and salary.