How to Calculate your Gratuity, Eligibility & Tax Treatment 2018

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Irrespective of whether one is employed with a private firm or a Government organization, some benefits are commonly applicable. One such common benefit that all Employees enjoy is Gratuity. All organizations whose Employee strength is more than 10 must pay Gratuity as per the Gratuity law. In this post, we will see How to Calculate your Gratuity, Eligibility & Tax Treatment 2018.

What is Gratuity?

Gratuity is a lump sum amount paid to the Employee who has put in 5 years of continuous service with an organization. The Employer pays this lump amount to the Employee to display his gratitude for serving 5 continuous years.

Does Gratuity calculation change from one Employer and another?

No. The statute has set a formula for the calculation of Gratuity which is common for all Employers. The final Gratuity settlement amount of an ‘exiting’ Employee is calculated with the help of this formula.

How To Calculate your Gratuity, Eligibility, Rules, Formula and tax benefits

Formula for Gratuity calculation

To arrive at the Gratuity amount payable to an exiting Employee, two variables play a key role – Tenure of Employment and Salary earned.

  • ‘Tenure’ here means not only 5 years but also continuous service for minimum 6 months per year during all the 5 years
  • ‘Salary’ here points out to the Basic Pay, Dearness Allowance and all Commission paid to the Employee.
  • For calculation of Gratuity, one month is construed as 26 working days
  • 15 days salary out of 26 days will be considered for every completed year of service and paid as Gratuity.
  • The exact formula for calculating Gratuity is = Complete number of years of service X last drawn per month salary X 15/26.
  • The final amount derived at using the above formula will point out that one receives 57.69% of their salary as Gratuity.

Example of Gratuity calculation

(Years of service) x (Last drawn monthly Basic and DA) x 15 / 26.

So, if an employee served for 30 years and his/her last drawn Basic and DA (combined) is Rs. 20,000, then he will get gratuity of Rs. 3,46,154, calculated as 30 x 20,000 x 15/26.

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Some basic Gratuity rules

  • Gratuity is the lump sum amount paid to an Employee by the Employer only at the time of his exit from the Employment
  • All employees who have completed 5 years of service with an organization are eligible for Gratuity payment. In reality a continuous service of 4 years and 240 days qualifies an Employee for Gratuity.
  • Gratuity being a terminal benefit, the Employer is liable to pay the due amount to the Employee only after he leaves his Employment
  • In rare cases where the Employee dies or becomes disabled to continue work, Gratuity is paid even before the 5 years period
  • If the Employee earns Daily Wages, the last three month’s salary average is taken for calculating per day salary.
  • An Employer is supposed to pay Gratuity to the Employee as per the formula prescribed for the same. However, at his own will, he can pay any excess amount to the Employee.

Also read: How To Switch From Regular Mutual Fund To Direct Mutual Fund 

Ceiling set for the Gratuity amount

  • For government and private employees, Rs. 20 lakh is the maximum amount that can be paid as gratuity.
  • When the Gratuity amount due to an Employee exceeds the maximum limit, the Employer has the right to reject the excess amount.

Can the Gratuity amount be recovered towards a legal proceeding against an Employee?

Let us assume that an Employee who is getting relieved from his services has an ongoing Criminal or Civil proceedings against him. It is not possible for a court to attach the Gratuity amount that is due to be received by him towards such legal proceedings. In short, the Gratuity amount received by an Employee as one of the terminal benefits is protected against all liabilities.

Circumstances that qualify an Employer to forfeit Gratuity

An Employer has the right to forfeit Gratuity amount payable to an Employee under the following circumstances

  • Does activities that causes loss to the organization
  • Gets involved in acts that are detrimental to the organization’s interest

If an Employee commits any one of the above acts, the Employer must first terminate him from his roles. Termination entitles the Employer to reject Gratuity to the concerned Employee.

Income Tax Treatment of Gratuity

Recently, government has increased the gratuity maximum limit to be exempted from tax from 10 lakhs to Rs. 20 Lakhs. Yes, Aggregate gratuity amount that is less than the set ceiling of 20 Lacs is not taxable.

For example, Mrs. Tamil worked in ABCD for 8 years and received Rs.12 lakhs as Gratuity. After leaving this organization she had joined XYZ. Here she worked for another 15 years and received the Gratuity amount of Rs. 20 lakhs.

As she already availed the tax exemption for Rs. 12 lakhs Gratuity from the organization ABC, this time she can avail the maximum tax exemption of another Rs.8 lakh only. The remaining gratuity which she received will be taxable income for her.

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