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How to Calculate Gratuity? Formula & Eligibility

For most people, securing a stable job is probably top on his/her priority list. An employee spends a large portion of his/her life working dedicatedly towards his organization. Good employees are the key to the growth of a company. In recognition of the services rendered by the employee over a long period, many organizations provide many benefits. One of the most important benefits that a company can provide its long-term employees is gratuity on retirement.

Gratuity payment is one of the several components that make up the gross salary of the employee. Since the amount payable as gratuity is based on the salary of the employee, it could work up to a sizeable amount. Understanding the eligibility criteria, the gratuity calculation formula, and applicable tax rules can prepare the employee to better utilize this resource.

What is Gratuity?

Gratuity refers to the amount that an employer pays his employee, in return for services offered by him to the company. The gratuity rules are governed by the Payment of Gratuity Act, of 1972. It should be noted that only those employees who have been employed by the company continuously for five years or more are eligible for gratuity. However, if the employee gets disabled in an accident or due to a disease, he/she can get the gratuity before five years.

The gratuity rules also apply to employees who leave the job after serving the same organization for a minimum period of 5 years.

Gratuity Eligibility Criteria

An employee who is planning to leave the organization or is about to retire should be aware of the criteria for gratuity eligibility.

To receive the gratuity, you must meet any of the following eligibility criteria:

  • You should be eligible for superannuation: It means attainment of the maximum age of service as fixed by the organization.

  • You should have retired from service: The gratuity received post-retirement is called Retirement Gratuity.

  • You should have resigned after continuous employment for five years with the company.

  • In case of your death, a lump sum after calculating the gratuity is paid to the nominee or you on disablement on account of a sickness or an accident.

Gratuity Calculation Formula

The gratuity calculator will calculate the estimated gratuity amount based on the gratuity calculation formula. You can also use an online Gratuity Calculator.

Before using a Gratuity Calculator, you should know that calculating gratuity for different types of employees would be different. An organization comes under the Gratuity Act when it crosses 10 employees.

  • For Employees covered under the Gratuity Act:

    Gratuity = n*b*15/26

    n denotes the tenure of service an employee has completed in the organization.

    b denotes the last drawn salary plus dearness allowance.

  • For Employees not covered under the Gratuity Act:

    Even if the organization is not covered under the Gratuity Act, the employees would still receive the Gratuity amount. But the number of days will be changed from 26 to 30 days.

    The Gratuity calculation formula is:

    Gratuity = (15 × last drawn salary × working tenure)/30.

It should be noted that according to the new gratuity rules, the gratuity amount cannot be more than Rs. 20 Lakhs. The excess Gratuity amount will be considered ex-gratia. Retiring government employees are eligible for Retirement Gratuity. The retirement gratuity for central government employees will be 16 times their Basic pay including DA for their qualifying service of 33 years or more (as applicable).

Calculation of Gratuity in Case of Death of an Employee

In case of the death of an employee, the gratuity benefits are calculated based on the tenure of service of the employee. The amount is, however, subject to a maximum of Rs.20 lakh.

Taxation on Gratuity

According to the new gratuity rules

  • The amount of gratuity received by any government employee (whether central/state/local authority) is exempt from the income tax.

  • Any other eligible private employee whose employer is covered under the Payment of Gratuity Act. Here, the least of the following three amounts will be exempt from income tax:

     

    • Rs 20 lakh.

    • The actual amount of gratuity received.

    • The eligible gratuity.

     

Conclusion

Understanding gratuity, its rules, and calculations are important if your organization is covered by the Gratuity Act. You can use your PF Gratuity or Pension Gratuity amount to smartly plan your finances and investments. It could be a great booster for a financially stable and comfortable post-retirement life.

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