What is Gratuity?
Gratuity is a lump sum payment made by employers to employees as a token of appreciation for their services. Governed by the Payment of Gratuity Act, 1972, it becomes payable when an employee completes 5 years of continuous service or upon retirement, resignation, death, or disability.
The Act covers establishments with 10 or more employees. Gratuity amount is calculated based on last drawn salary (Basic + DA) and years of service. The first ₹20 lakh of gratuity is completely tax-exempt under Section 10(10) of the Income Tax Act, making it a valuable retirement benefit.
Gratuity Eligibility Criteria
Not all employees are eligible for gratuity. Here are the key eligibility criteria:
- Minimum Service: Completed 5 years of continuous service (240 working days/year counts as 1 year)
- Exception: Death or disability removes 5-year requirement - gratuity payable immediately
- Coverage: Establishment must have 10+ employees at any point in preceding 12 months
- Type of Employment: Applies to factories, mines, oil fields, plantations, ports, railways, shops, educational institutions
- Resignation: Gratuity payable even on voluntary resignation after 5 years
- Termination for Misconduct: Employer can withhold gratuity if employee terminated for willful damage, violence, moral turpitude
Important: 240 working days in a year qualifies as 1 completed year. For seasonal workers, 190 days count as 1 year. Maternity leave counts as working days.
Gratuity Calculation Formula Explained
Gratuity calculation differs based on whether employer is covered under the Gratuity Act:
For Covered Establishments (Gratuity Act Applicable):
- Last Drawn Salary: Basic Salary + Dearness Allowance (DA)
- 15: Fixed multiplier as per Gratuity Act
- 26: Number of working days (assuming 26 working days/month)
- Years of Service: Completed years (6+ months rounds up to 1 year)
For Non-Covered Establishments (Act Not Applicable):
- Uses 30 days/month instead of 26 (results in lower gratuity)
- Applicable to establishments not covered by Act (less than 10 employees)
- Formula can vary based on company policy
Maximum Gratuity Limit:
- No Upper Limit: Payment of Gratuity Act has no ceiling on gratuity amount
- Tax Exemption Limit: First ₹20 lakh is tax-free, excess is taxable
- Government Employees: Tax exemption limit is ₹25 lakh (higher than private)
Gratuity: Covered vs Non-Covered Establishments
| Aspect | Covered (Act Applicable) | Non-Covered (Act Not Applicable) |
|---|---|---|
| Applicability | 10+ employees | Less than 10 employees |
| Formula | (Salary × 15/26 × Years) | (Salary × 15/30 × Years) |
| Working Days/Month | 26 days | 30 days |
| Gratuity Amount | Higher (26 days basis) | Lower (30 days basis) |
| Minimum Service | 5 years (240 days/year) | As per company policy |
| Maximum Limit | No ceiling | Company policy |
| Tax Exemption | ₹20L (Section 10(10)) | ₹20L (Section 10(10)) |
| Payment Timeline | Within 30 days (mandatory) | As per company policy |
| Death/Disability | 5-year rule waived | Company policy |
Key Difference: Covered establishments use 26 working days resulting in ~15% higher gratuity compared to non-covered (30 days).
Gratuity Taxation Rules
Gratuity taxation under Section 10(10) of Income Tax Act varies by employee type:
1. Government Employees:
- 100% gratuity received is tax-exempt (no limit)
- Applies to Central, State, Local Government employees
2. Private Sector Employees (Covered by Act):
- Tax exemption = Least of:
- a) Actual gratuity received
- b) ₹20 lakh (maximum exempt limit)
- c) (15 × Last Salary × Years) / 26
- Amount exceeding ₹20 lakh is added to income and taxed as per slab
3. Private Sector Employees (Not Covered by Act):
- Tax exemption = Least of:
- a) Actual gratuity received
- b) ₹20 lakh (maximum exempt limit)
- c) (15 × Last Salary × Years) / 30
- d) ½ month salary × years of service
Example: Gratuity received = ₹25 lakh. Tax-free = ₹20 lakh. Taxable = ₹5 lakh (taxed as per your income tax slab - 30% bracket = ₹1.5L tax).
When and How Gratuity is Paid
Gratuity becomes payable in the following situations:
- Retirement: Upon reaching superannuation age (typically 58-60 years)
- Resignation: Voluntary resignation after completing 5 years service
- Retrenchment: Termination by employer (not due to misconduct) after 5 years
- Death: Payable to nominee/legal heir even if service < 5 years
- Disability: Accident or disease rendering employee unfit - 5-year rule waived
Payment Timeline:
- Gratuity must be paid within 30 days from the date it becomes payable
- Delay beyond 30 days attracts simple interest (not compound) from employer
- Interest rate: As notified by government (currently around 10% per annum)
- Employee can claim gratuity with Form I application
- Employer must acknowledge receipt of application within 15 days
Forfeiture (Loss of Gratuity):
- Full Forfeiture: If employee terminated for act involving moral turpitude, violence, or causing loss to employer's property
- Partial Forfeiture: Up to employer discretion for damage/loss caused by employee's willful omission/negligence
- Cannot be Forfeited: Resignation, poor performance, general misconduct
How to Use this Gratuity Calculator
- Enter your monthly basic salary + dearness allowance (DA) amount.
- Input total years of completed service (minimum 5 years required).
- Select whether your employer is covered under the Payment of Gratuity Act (most companies with 10+ employees are covered).
- View total gratuity amount calculated using the appropriate formula (26 days for covered, 30 days for non-covered).
- Check tax-exempt portion (up to ₹20 lakh) and taxable amount (if any).
- Save your gratuity calculation for future reference or share via WhatsApp.