How Companies Can Save Tax upto 32.50% by Formation of Gratuity Fund under Irrevocable Trust?

In the Indian context, most reputed Indian and multinational companies can save tax up to 32.50% by forming a CIT-approved gratuity fund under irrevocable trust and investing the initial and annual contribution equivalent to the provision of gratuity liability in the balance sheet annually (refer to Section 36 (i) (v) and 10 (25) (iv) and Section 10 (25) (iv), which is disallowed under Section 40 (a) (7) of the Income Tax Act, 1961).

The example below may help you understand "What benefits are companies not getting if they don't create a CIT-approved gratuity trust":

Scenario 1. If the company does not have a CIT-approved gratuity fund under an irrevocable trust

Then

If the actuarial valuation liability of the company under the gratuity plan is INR 10,00,00,000 (INR 10 crore) since the company has not created any CIT-approved gratuity fund under an irrevocable trust, then the total provision of INR 10 crore gratuity liability will be disallowed whilst computing net income for the income tax computation of the company.

Scenario 2. If the company has created a CIT-approved gratuity fund under an irrevocable trust

then

If the company had formed an approved gratuity fund (i.e., as per Clause 5 of Section 2 of the Income Tax Act 1961) under irrevocable trust (i.e., as per the provisions of Clause (a) of Sub-Section 2 of Section 3 of Part C of the Fourth Schedule of the Income Tax Act 1961), then the company will transfer INR 10 crores to the bank account of the CIT-approved gratuity trust, and INR 10,00,00,000 (INR 10 crore) will be allowed as an expense under Section 36 (1)(v) of the Income Tax Act 1961, and interest accrued on this 10 crore amount is also tax-exempted under Section 10 (25)(iv) of the Income Tax Act 1961. (CIT approval in terms of Rule 4 of Part C of the Fourth Schedule the Income Tax Act, 1961, is a Schedule of must requirement for taking this tax benefit.)

To get the above taxation benefits, companies use the Form CIT Approved Gratuity Fund under the Irrevocable Gratuity Trust as per the provisions of the following rules/regulations and acts:

1. Rule 98 to 111 of the IT Rules, 1962 
2. Part C of the Fourth Schedule of the IT Act, 1961, 
3. 3Indian Trust Act, 1882,
4. The Payment of Gratuity Act, 1972 (a) 
5. The Payment of Gratuity Rules, 1972 
6. The Karnataka Compulsory Gratuity Insurance Rule, 2024 
7. Telangana Compulsory Gratuity Insurance Rules, 2016 
8. Andhra Pradesh Compulsory Gratuity Insurance Rules, 2011 
9. Accounting Standards 15 (Rev 2005) & IndAS19
10. APS 27 of the Institute of Actuaries of India

Kindly refer to the relevant paragraphs and sections of the above-mentioned Act/Rules for understanding the process of formation of the approved Gratuity Fund under Irrevocable Trust.