Gratuity is a financial reward given by a company to its employees as a token of appreciation for their long-term service. In India, gratuity becomes payable after an employee has completed a minimum of 5 years of continuous service with an organization. For many employees, this can be a significant part of their financial planning for the future. Here’s a simple explanation of how gratuity works, the eligibility criteria, and the formula for calculating the amount.
Who Is Eligible for Gratuity?
In India, the Payment of Gratuity Act, of 1972 governs gratuity payments. According to the Act, if a company has 10 or more employees, it is legally bound to pay gratuity to its employees. Both government and private sector employees are eligible, and this includes factory workers and employees in retail establishments.
To qualify for gratuity, an employee must have worked for at least 5 years. However, there is an exception: if an employee has worked for 4 years and 8 months, this is considered equivalent to 5 years, and they can still claim gratuity. On the other hand, if someone has worked for 4 years and 7 months or less, they will not be eligible.
Gratuity Calculation Formula: How to Calculate Your Gratuity
The gratuity calculation formula is quite simple and easy to understand. It is based on three factors: the last drawn basic salary, the number of years served in the company, and a standard multiplier of 15/26. The formula is as follows:
Gratuity = Last drawn basic salary × Tenure of service × (15/26)
Let’s break this down with an example.
Scenario 1:
- Last basic salary: ₹50,000
- Tenure of service: 20 years
Using the formula: ₹50,000 × 20 × (15/26) = ₹5,76,923 (approximately ₹5.77 lakh)
This is the amount that the employee would be eligible to receive as gratuity after 20 years of service in the company.
Gratuity Calculation Example with Lower Basic Salary
If an employee’s last drawn basic salary is lower, let’s see how the gratuity will be calculated.
Scenario 2:
- Last basic salary: ₹25,000
- Tenure of service: 20 years
Using the same formula: ₹25,000 × 20 × (15/26) = ₹2,88,461 (approximately ₹2.88 lakh)
This formula can be used by employees to get a rough estimate of how much gratuity they will receive when they leave the company.
Special Cases: Gratuity in Case of Death or Retirement
If an employee dies while on duty, their nominee is entitled to receive the gratuity amount, regardless of whether the employee has completed 5 years of service or not. The minimum service period requirement is waived in such cases, and the company is required to pay gratuity to the nominee.
Additionally, the same rule applies to employees who retire after 5 years of service. The gratuity amount is calculated based on their last drawn salary and the number of years they have worked.
Gratuity for Private and Government Employees: The Difference
Private-sector employees are entitled to gratuity, but they often don’t get the additional benefit of dearness allowance (DA) like government employees do. This means that for private-sector employees, the gratuity is calculated solely based on their basic salary, whereas for government employees, the calculation may include both the basic salary and the DA.
In some cases, companies may have their own rules regarding gratuity, and they might offer fixed gratuity amounts to their employees. Therefore, it’s always a good idea for employees to check whether their company follows the government-mandated formula or has its own policy in place.
Things to Keep in Mind While Calculating Gratuity
- Check if your company is registered under the Payment of Gratuity Act: It’s essential to confirm whether your company is covered by the Payment of Gratuity Act. If your company is registered under this Act, it is legally obligated to pay you gratuity once you complete 5 years of service.
- The notice period counts as part of the service: If you are serving a notice period while leaving your job, those days are counted as part of your service for gratuity calculation. So, if you have completed 4 years and 8 months in service and are on a notice period for another month, you can claim gratuity once the notice period is completed.
- Gratuity is calculated on a 26-day basis: Since Sundays are not counted as part of a working month, gratuity is calculated based on 26 working days in a month. The formula uses 15 days of salary out of 26 days for the calculation, which ensures that employees receive nearly half a month’s salary for each year of service.
- Tax on gratuity: Gratuity is tax-free up to ₹20 lakh as per current income tax rules in India. If the gratuity amount exceeds ₹20 lakh, the excess amount will be taxable as per the individual’s tax slab.
How to Claim Your Gratuity
Once you leave a job after completing the required service period, you can apply for gratuity from your employer. The employer is required to pay the gratuity within 30 days of your claim. If there is a delay, the employer may be required to pay interest on the gratuity amount.
In case of any dispute regarding gratuity, employees can approach the labour court or file a grievance under the Payment of Gratuity Act.
Understanding gratuity and knowing how to calculate it can help employees plan their finances better.
Note: The gratuity amount calculated is based on your last salary and job tenure. This amount may change depending on the salary, job tenure and any amendments in the relevant laws.
