How to Know about Gratuity and Calculation

Gratuity is a art of salary that is received by an employee from his/her employer in gratitude for the services offered by the employee in the company. Gratuity is one of the least understood components of salary Investment Yogi explains everything about Gratuity and the tax implications for you.

Gratuity is a part of salary that is received by an employee fro his/her employer in gratitude for the services offered by the employee in the company. Gratuity is a defined benefit plan and is one of the many retirement benefits offered by the employer to the employee upon leaving his job. An employee may leave his job for various reasons, such as- retirement/superannuation, for a better job elsewhere, on being retrenched or by way of voluntary retirement.

Eligibility

A per Sec 10(10) of Income Tax Act, gratuity is paid when an employee completes 5 or more years of full time service with the employer(minimum 240 days a year).

How Does it work?

An employer may offer gratuity out of his own funds or may approach a life insurer in order to purchase a group gratuity plan. In case the employer chooses a life insurer, he has to pay annual contributions as decided by the insurer. The employee is also free to make contributions to his gratuity fund. The gratuity will be paid by the insurer based upon the terms of the group gratuity scheme.

Tax treatment of gratuity

The gratuity so received by the employee is taxable under the head ‘Income from salary’. In case gratuity is received by the nominee/legal heirs of the employee, the same is taxable in their hands under the head ‘Income from other sources’.

This tax treatment varies for different categories of individual assesses. We shall discuss the tax treatment of gratuity for each assessee in detail.

For the purpose of calculation of exempt gratuity, employees may be divided into 3 categories-

  • Government employees and
  • Non-government employees covered under the payment of Gratuity Act,1972
  • Non-government employees not covered under the payment of Gratuity Act, 1972

In case of government employees-they are fully exempt from receipt of gratuity.
In case of non-government employees covered under the Payment of Gratuity Act, 1972- Maximum exemption from tax is least of the 3 below:

  1. Actual gratuity received;
  2. Rs 10,00,000;
  3. 15 days’ salary for each completed year of service or part thereof

Note:

  • Here, salary =basic + DA + commission (if it’s a fixed % of sales turnover).
  • Completed year of service or part there of means: full time service of >6 months is considered as 1 completed year of service; < 6 months is ignored.
  • Here, number of days on a month is considered as 26. Therefore, 15 days’ salary is arrived as = salary* 15/26
  • In case of non-government employees not covered under the Payment of Gratuity Act, 1972-Maximum exemption from tax is least of the 3 below;
  1. Actual gratuity received;
  2. Rs. 10,00,000;
  3. Half-month’s average salary for each completed year of service (no part thereof)

Note:

  • Here, salary= basic + DA + commission ( if it’s a fixed % of sales turnover).
  • Completed year of service (no part thereof) means: full time service of > 1 year is considered as 1 completed year of service. < 1 year is ignored.
  • Average salary =10 months’ salary (immediately preceding the month of leaving the job)/10

Illustration

Let’s understand the above math clearly with an example:
Tarun had been working with an IT company since past 10 years, 7 months. He is retiring on 15th April, 2010. His current Basic= Rs. 40,000pm, DA = Rs 5,000pm. He is going to receive a gratuity amount of Rs 3 lakhs on retirement. Note: Tarun’s basic and DA have been the same since past 1 year.

Lets consider 2 situations here- (a) Tarun employer is covered under Payment of Gratuity Act, 1972; and (b) Tarun employer is not covered under the Payment of Gratuity Act, 1972.

Salary =Basic + DA = Rs 40,000 pm + Rs 5,000 pm
Average salary = 10 months’ salary (immediately preceding the month of leaving the job)/10= (Rs 45,000 pm*10)/10 = Rs
45,000 pm. Therefore, half-month’s average salary is = Rs 45,000/2

Important points to remember

  • Generally, only government employers give DA to their employees. Above example is only for illustrative purpose.
  • The salary of the employee may differ over a period of time on account of change in basic, DA and/ or other factors.
  • In case gratuity is received from more than one employer during the previous year, maximum exemption allowed is up to 10,00,000.
  • Where employee has already claimed gratuity exemption in any previous year(s), the maximum exemption amount allowed for the current previous years.
  • in case of an employee who is employed in a seasonal establishment( not employed throughout the year), the gratuity exemption shall be for seven days wages for each season.

Reply

XML Sitemap

Dividend tax only on dividend income above Rs 10 lakh
Snapdeal’s Kunal Bahl describes what it takes to get into the haloed club
Time to Surf the ECB’s Market Wave
How to get loan you against PPF – A discussion
Axis Bank limits support for snapdeal’s seller financing programme.
Mukesh Ambani led Reliance Jio accuses Bharti Airtel, Vodafone, Idea of preventing launch
Mahindra looks north after UK electric car launch
Amazon, Flipkart may soon have to stop cash-back offers
No Preview
Snapchat raised $1.8B in a Series F round; leaked deck reveals revenues
How to Find an Angel Investor
Companies boost green bond offerings on government’s clean-energy push
Alibaba, Ant Financial inject fresh cash into India’s Paytm
BRICS Bank to fund inclusive needs of emerging nations: PM Narendra Modi
How to make money in Real Estate
How to become a Best Real Estate Agent
What Kind Education Do You Need To Become A Billionaire?
Microsoft will stop updating anything older than Internet Explorer 11. But millions are still using the old browsers.
How to get loan you against PPF – A discussion
Google’s Nexus Lineup Offers Better Security Among Android Phones: Cambridge Report
Reliance Jio spending Rs. 1lakh crore on 4G rollout