Gratuity scheme

What Is Gratuity? | Gratuity Scheme | 1 Best loyalty reward scheme for employees

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Blog Introduction

Hello Friends, Welcome to my Blog Investinfy.com the best financial blogs where you will be able to read about the end to end information on many investment schemes and financial topics. In this Blog post we will be focusing on Gratuity Scheme.

Generally when we want to invest money on any investment scheme , we always asks our friends and relatives that where we can invest ? and they suggests the investment schemes which they like most. Then we invest as per their suggestions, that is good as we consider them as our well wisher , But here I want to mention one thing, if we know end to end information of each investment schemes at least it will help us to understand if that investment scheme is good for us or not.

Hence it is better to have a complete idea about each investment scheme where we invest. Therefor this blog will help you to know end to end information of many Indian investment schemes available right Infront of you.

In this blog post I will be explaining my analysis on  Gratuity Scheme. This will be a complete guide on Gratuity Scheme. Please read till end of the blog post to know the complete information about this Gratuity Scheme. Lets get started.

What Is Employee Gratuity Scheme?

Gratuity is a retirement and loyalty reward scheme for the salaried employees. Gratuity is a defined benefits scheme in which a lump sum amount will be paid to the employee by the employer, when he leaves the organisation after serving for certain number of years. It is more like a reward from the employer appreciating the employee’s service. Gratuity scheme is a part of employee’s salary and it is paid by the employer for the services offered by the employee.

History Of Employee Gratuity Scheme

Before 1972, it was not compulsory for an employer to provide some reward to an employee when he leaves the organisation. But, in 1972, Government of India came up with Payment of Gratuity Act. As per this Act, if the employer is having more than 10 employees, then Gratuity scheme is a compulsory benefit. Employer should pay Gratuity when the employee leaves the organisation after serving certain number of years.

How Does Employee Gratuity Scheme Work?

When an employee joins an organisation, he automatically becomes a part of employer’s Gratuity scheme. Employer specifies the gratuity scheme benefits on the Offer Letter given to the employee. Employer contributes to the Gratuity fund on his own or through a life insurance company. When the employee leaves the organisation after serving for at least 5 years, employer pays the gratuity amount as a one time lump sum amount appreciating employee’s service. If the employee leaves before 5 years, then employee will not get any gratuity benefits.

Features Of Gratuity Scheme

  • It is a retirement or resignation benefit scheme.
  • No contribution from the employee. The Employer pays the entire contribution.
  • Income tax benefits.

Eligibility Criteria for Employee Gratuity Scheme

  • An employee is eligible to receive gratuity benefits if he serves the organisation for at least 5 years of continuous service as an employee.
  • If an employee leaves the organisation before 5 years, then no gratuity will be paid.
  • In case of death or disablement of the employee before 5 years, the eligibility rules are not applicable.
  • In case of death, employee’s nominees will get the gratuity benefits.

When Will Employee Get Gratuity?

Gratuity is a one time lump sum payment and it is paid to the employee when he leaves the organisation after serving for at least 5 years of continuous service as an employee.

The reason for leaving the organisation can be one of the following.

  • Resignation.
  • Laid off by employer.
  • Voluntary retirement.
  • Retirement.
  • Disability due to accident or disease.
  • Death

How To Calculate Gratuity?

Gratuity benefit amount is calculated based on the following two things.

  • Employees covered under Gratuity Act.
  • Employees NOT covered under Gratuity Act.

Let us see the calculation details for each category.

Employees covered under Gratuity Act: For the employees covered under Gratuity Act, it is calculated using the following formula.

Gratuity = (number of years of service x last drawn monthly salary x 15) / 26.

where “number of years of service” is the total number of years of service of employee to the employer . if the employee’s service is more than 6 months, then it will be considered as 1 year. if the employee’s service is less than or equal to 6 months, then it will be ignored.

For example, if employee’s service is 8 years and 7 months, then it will be considered as 9 years. If employee’s service is 8 years and 5 months, then it will be considered as 8 years only.

Last drawn monthly salary is the amount employee received just before leaving the organisation.

Monthly salary includes Basic Pay and DA (Dearness Allowance) only.

Employees NOT covered under Gratuity Act: For the employees who are NOT covered under Gratuity Act, it is calculated using the following formula.

Gratuity = (number of completed years of service x average monthly salary x 15) / 30.

where “number of completed years of service” is the total number of completed years of service of employee to the employer. only the completed number of years will be considered. Any Service in months will be ignored.

for example, if the employee’s service is 8 years and 10 months, then only 8 years will be considered.

Average monthly salary is the average of last 10 months’ salary just before leaving the organisation.

monthly salary includes Basic Pay, DA (Dearness Allowance) and commissions, if any, only.

Limit On Gratuity Scheme Benefits

There is an upper limit on the Gratuity scheme benefit amount payable to the employees. The limit details are given below.

Employee TypeGratuity Limit
 Government employee Rs. 20 Lakhs from 01-Jan-2016.
 Before that, the limit was Rs. 10 Lakhs
 Non-Government employee Rs. 20 Lakhs from 29-Mar-2018.
 Before that, the limit was Rs. 10 Lakhs
Limit On Gratuity Benefits

Government Employees:

  • The limit is Rs. 20 Lakhs only. Earlier, the limit was Rs. 10 Lakhs. It was increased to Rs. 20 Lakhs with effective from 01-Jan-2016.
  • Based on the calculations formulas mentioned in the previous section, if the Gratuity benefit is more than Rs. 20 Lakhs, the employer can pay a maximum of Rs. 20 Lakhs only as per the law.
  • However, the employer can choose to pay the amount in excess of Rs. 20 Lakhs in the form of Bonus or other salary components.

Non-Government Employees:

  • The limit is Rs. 20 Lakhs only. Earlier, the limit was Rs. 10 Lakhs. It was increased to Rs. 20 Lakhs with effective from 29-March-2018.
  • Based on the calculations formulas mentioned in the previous section, if the Gratuity benefit is more than Rs. 20 Lakhs, the employer can pay a maximum of Rs. 20 Lakhs only as per the law.
  • However, the employer can choose to pay the amount in excess of Rs. 20 Lakhs in the form of Bonus or other salary components.

Income Tax Benefits in Gratuity Scheme

The income tax impact on Gratuity amount is based on whether the employee is Government or non-Government. The details of each category are given below.

Government Employees: The gratuity amount received is completely (100%) tax free for Government employees.

Non-Government Employees: Tax treatment for non-Government employees can be divided into the following 2 categories.

  1. Non-Government employees covered under Gratuity Act. :
  2. Non-Government employees NOT covered under Gratuity Act.

Non-Government employees covered under Gratuity Act: For the non-Government employees covered under the Payment of Gratuity Act, the Gratuity amount received will be tax free to a certain limit. That limit will be the lowest of the following 3 items.

1. actual gratuity received.
2. (number of years of service x last drawn monthly salary x 15) / 26.
3. Rs. 20 Lakhs
Gratuity Act

Any amount received more than the above mentioned limit will be added under the head “Income from Salary” and it will be taxed as per employee’s income tax slab.

 Non-Government employees NOT covered under Gratuity Act: For the non-Government employees NOT covered under the Payment of Gratuity Act, the Gratuity amount received will be tax free to a certain limit.

That limit will be the lowest of the following 3 items.

1. actual gratuity received.
2. (number of years of service x last drawn monthly salary x 15) / 30.
3. Rs. 20 Lakhs
Gratuity Act

Any amount received more than the above mentioned limit will be added under the head “Income from Salary” and it will be taxed as per employee’s income tax slab.

Death Of An Employee

  • In case of death of the employee, the eligible gratuity amount will be paid to his nominees or legal heirs.
  • In case of death of the employee, the eligibility criteria of 5 years of continuous service will not be applicable.
  • Even if the employee’s service is less than 5 years, the gratuity amount will be paid to his nominees.

Nomination facility for Gratuity Scheme

  1. Nomination facility is available in Gratuity scheme.
  2. After 1 year of service, an employee can make a nomination with his employer to pay the Gratuity benefits just in case of his death before retirement.
  3. Nomination can be made in the name of one or more family members.
  4. Nominees should be family members only. Employee can’t nominate any one outside of family.
  5. Employee can update nomination during the employment as and when family situation changes.

FAQ About Employee Gratuity Scheme

Can Employer Deny Paying Gratuity?

There are certain situations where the employer will not pay gratuity to employee even if the employee is eligible for gratuity. The Employer can choose NOT to pay gratuity to an employee if he is laid off for reasons such as misconduct, violence, moral offence, causing damage to employer’s properties, etc.

Maternity Leave For Gratuity Calculation

For female employees, the maternity leave has been increased to 26 weeks from 12 weeks. This is for the calculation of continuous service in Gratuity. This has been effective since 29-Mar-2018.

What Is Gratuity?

Gratuity is a retirement and loyalty reward scheme for the salaried employees. Gratuity is a defined benefits scheme in which a lump sum amount will be paid to the employee, by the employer, when he leaves the organisation after serving for certain number of years. It is more like a reward from the employer appreciating the employee’s service.

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