16 Jan

Gratuity is a lump sum payment made to the employees based on the duration of their total service. The gratuity benefit is payable on cessation of employment (either by resignation, death, retirement or termination, etc) by taking the last drawn salary as the basis for the calculation. However, in case of death of the employee, his/her family members are given the amount. It is a form of gratitude provided to the employees in monetary terms for the services rendered by them to the organisation and is an important form of social security benefit. Gratuity payment liability of the employer tends to increase with a increase in the salary and tenure of employment. The employer may pay the gratuity proceeds from his current revenue. Some organisations have also set up a gratuity fund as a part of their financial planning. Also, many insurance companies have designed special schemes which relate to gratuity. For example, LIC( Life Insurance Corporation of India ) has Group Gratuity(Cash Accumulation)Scheme that provides convenient way of funding statutory obligation of an employer under the payment of gratuity Act.

The law governing gratuity in India, is the Payment of Gratuity Act, 1972 (P.G. Act). The Act  applies to factories, mines, oil fields, plantations, ports, railways, motor transport undertakings, companies, shops or other establishments. The provisions under the Act are:-

  • Employers are statutorily liable to pay amount of gratuity equivalent to 15 days of last drawn basic salary.It becomes payable to the employees who have completed five years of uninterrupted services in an organisation. After five years,if workers work more than 6 months but less than a year,then it is calculated as another one year. But if they work less than 6 months after five years,then it will not be considered as another year.For computing gratuity,number of working days in a month are considered 26 days.This is to done to provide benefit to the employees as it increases the amount of gratuity to be paid. The last drawn basic pay is divided by 26. The amount so obtained is multiplied by 15 to compute the amount of gratuity per year.


  • The gratuity received upto the limit of Rs. 3,50,000 is liable to be exempted from taxation under the Income Tax Act. The exemption is, however, not available for payment of gratuity when the employee is still in service.Gratuity received from a previous employer is to be pooled with gratuity received from the present employer for computing exemption limit.


  • In case of any other employee,not covered under the Act,the gratuity received by an employee on retirement, death, termination, resignation or on his becoming incapacitated prior to his retirement is exempt from tax to the extent of the least of the following:-
    1. Rs. 3,50,000


    1. Gratuity actually received, or


    1. Half month’s salary for each completed year of service.

Average Salary is calculated on the basis of average salary of 10 months immediately proceeding the month in which an employee is retired.The salary for the purpose is calculated as basic salary plus dearness allowance plus commission on fixed percentage of profit.


  • Since the gratuity is a statutory service condition,the Act provides for the punishment of the employer who fails to pay it to an employee. Moreover,in case of misconduct of the employee involving financial loss to the management, an amount equal to the loss directly suffered by the employer by reason of such misconduct is liable to be forfeited from the gratuity due to the employee.




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Posted by on January 16, 2013 in Statutory Compliance


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