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Gratuity Demystified: How It Works and Its Tax Implications

Gratuity Demystified

Gratuity is a monetary benefit provided by employers to employees as a token of appreciation for their loyalty and dedication. Governed by the Payment of Gratuity Act, 1972, it is mandatory for companies with 10 or more employees to offer gratuity.

This benefit is provided to employees who:


Eligibility Criteria for Gratuity

To qualify for gratuity, employees must meet specific criteria:

Exceptions:

  1. In Case of Death: Gratuity is paid to the nominee or dependents.
  2. Disablement: If an employee becomes disabled, gratuity is payable before completing five years.

Gratuity Calculation Formula

Gratuity is calculated using the following formula:

Gratuity=(15×Last Drawn Salary×Years of Service)/26\text{Gratuity} = \left( \text{15} \times \text{Last Drawn Salary} \times \text{Years of Service} \right) / 26

Example:

An employee with a last drawn salary of ₹50,000 and 10 years of service will receive:

Gratuity=(15×50,000×10)/26=₹2,88,461\text{Gratuity} = \left( 15 \times 50,000 \times 10 \right) / 26 = ₹2,88,461


Tax Implications on Gratuity

Gratuity received is taxable under certain conditions, depending on the type of employment:

1. Government Employees

Gratuity is entirely exempt from tax.

2. Employees Covered Under the Payment of Gratuity Act

Tax exemption is available for the least of:

3. Employees Not Covered by the Act

Exemption is calculated as:


Key Points to Note

Employment Type Taxability
Government Employees Fully exempt
Covered Under Gratuity Act Least of ₹20 lakh, 15 days’ salary/year, or actual amount received
Not Covered Under the Act Least of ₹20 lakh, ½ month’s average salary/year, or actual amount received

Frequently Asked Questions (FAQs)

  1. What happens if an employee dies during service? The nominee or dependents receive gratuity without the five-year requirement.
  2. Can gratuity be denied? Gratuity can only be denied in cases of termination due to misconduct.
  3. Is gratuity part of CTC? Yes, many employers include gratuity as part of the Cost-to-Company (CTC).

Conclusion

Gratuity is not just a statutory obligation; it reflects an employer’s gratitude for an employee’s service. By understanding gratuity rules, employees can ensure they receive the rightful benefit and optimize their tax liabilities.

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Disclaimer:

This article provides general information about gratuity and tax implications. For personalized advice, consult a financial expert or legal advisor.

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