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All You Need To Know About Income Tax Exemption on Gratuity

Income Tax Exemption on Gratuity 

Gratuity is a benefit given to an employer to the employee for the services he/she rendered during the service period. It is commonly paid at retirement but is also paid earlier in certain circumstances. 

Eligibility of gratuity is calculated based on the employee’s period of employment in the company. A minimum of 5  years of service is mandatory for the gratuity. The exceptions are only given during any state of emergencies like disablement or disease, death of the employee etc. The Gratuity payable depends on previously drawn salary and the years of service. Although there is no legal framework for calculating gratuity amount, most employers follow a formula based approach for calculating gratuity

According to the payment of Gratuity Act 1972, the employees can be classified as -- Employees covered under the Act and Employees not covered under the Act. In order for an organization to be eligible under Gratuity Act, it should employ at least 10 people on a day in the preceding 12 months.Once a company gets Gratuity cover, it will remain covered even if the number goes down. 

How to calculate Gratuity and Tax exemptions?

Gratuity payable depends on the employee’s last drawn salary and years of service. The salary component here only depends on the Dearness Allowance and Basic component of the salary.

The Gratuity ceiling amount was 10 lakhs before and has been raised to 20 lakhs as per the amendment made by the government w.e.f. 29.3.2018. This amendment is a big relief to salaried taxpayers. This amendment bill was introduced by India’s labour minister Santosh Kumar Gangwar on 18.12.2017.

 Cases for tax exemption are as follows:

Employees covered under the Gratuity Act

In this case the least of the following is exempt from tax: 

  • Last drawn salary (basic + DA)* years of employment* 15/26;

  • Rs. 20 lakhs

  • Gratuity actually received. 

For example, if an employee’s last drawn salary is INR 100,000, years of employment is 20, 

Gratuity amount will be: 1,00,000*20*15/26 = 11,53,846

The maximum exemption is 20 lakhs, since the gratuity amount is less than that, it is completely exempt from tax. 

Employees not covered under the Gratuity Act

In this case the least of the following is exempt from tax: 

  • Last 10 months average salary (basic + DA)* years of employment* 15/26;

  • Rs. 10 lakhs

  • Gratuity actually received. 

For example, if an employee’s average salary for last 10 months is INR 90,000, and the years of employment is 25, 

Gratuity amount will be: 90,000*25*1/2 = 11,25,000

Since the amount exceeds the maximum exemption,  the excess amount will be taxable. 

Maximum exemption = 10 Lakh

Excess amount = 1 Lakh (Taxable)

Government Employees

Government employees benefit from complete tax exemption for the Gratuity amount paid. The Government pays Gratuity to them based on their salary and service period. It is completely exempt from tax. 

Frequently Asked Questions

1) What is the time limit for Gratuity payment?

The Gratuity amount should be paid by the employer within 30 days from the date it is payable to the person.If it gets delayed, the company has to pay simple interest for the Gratuity amount from the date of eligibility till the date of actual payment. 

2) What are the factors that determine Gratuity?

Gratuity depends on the last drawn salary of the employee and the years of his/her service to the company or organization. 

3) Will I get Gratuity if I resign?

Gratuity is payable to the employee after 5 years of service even if the employee resigns or retires. 

4) Are contractual employees eligible for Gratuity benefits?

Yes, contractual and temporary employees are also eligible for the Gratuity benefits from an employer but Apprentices are not. 

5) Can I select a nominee for my Gratuity?

Yes, you can assign a nominee for your Gratuity amount by filling Form F and submitting it to the employer. 

6) How much Gratuity is payable for cases like employee’s death or disablement due to accident or disease?

In such cases, there is no eligibility period of service. The gratuity amount depends upon the service years and last drawn salary. It can be calculated using the below formula:

Gratuity = no:of years of service*(basic salary+DA)*15/26

7) Who will get the Gratuity benefits in the case of the death of an employee who hasn’t chosen anyone as the nominee?

In such cases, the Gratuity will be given to the closest family member to the employee. 

About Sub J

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Content Strategist by profession. Expertise in staffing, recruitment, human resource, and Tax

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