Payment of Gratuity and Exemption from Tax

Gratuity is a monetary benefit given by the employer to employees. It is governed by Payment of Gratuity Act, 1972. The exemption limit has been increased to Rs 20 lakh from the earlier Rs. 10 lakh. The CBDT Notification no. S.O. 1213(E), dated 8 March 2019, clarified that the exemption limit of Rs 20 lakh would be applicable to employees in the event of retirement or death or resignation or disablement on or after 29 March 2018.

Payment of Gratuity

Gratuity shall be payable by the employer to an employee on the termination of his employment after he has rendered continuous service for not less than five years, -

(a) on his superannuation, or
(b) on his retirement or resignation, or
(c) on his death or disablement due to accident or disease

Exception: The completion of continuous service of five years shall not be necessary where the termination of the employment of any employee is due to death or disablement

In the case of death of the employee, gratuity payable to him shall be paid to his nominee. In case no nomination has been made, gratuity shall be paid to his heirs. If such nominees or heirs is a minor, the share of such minor, shall be deposited with the controlling authority who shall invest the same for the benefit of such minor in such bank or other financial institution, as may be prescribed, until such minor attains majority.

Exemption for Gratuity from Tax

The exemption for gratuity can be categorised as follows-

1. Government Employees
2. Employees covered under the Gratuity Act
3. Employees not covered under the Gratuity Act

1. Government Employees

The Gratuity received by the Government Employees is completely exempt from tax.

2. Employees covered under the Gratuity Act

Applicability: Every individual working in a factory, mine, oil field, port, railways, plantation, shops and establishments or educational institution having 10 or more employees on any day  in the preceding 12 months is entitled to gratuity. Once the Act becomes applicable to an employer, gratuity would still be applicable even if the number of employees fall below 10 employees.

Calculation of Amount of Gratuity Exempted from Tax:

The least of the following shall be exempt from tax-

• Last drawn salary*number of years of employment*15/26
• 20 lakhs
• Actual Gratuity Received

For the purpose of calculation of gratuity, salary shall be Basic + DA. While calculating the number of years of service, a period in excess of 6 months shall be rounded off to 1 year.

Example:

The last salary drawn by Krishna Kumar is Rs.1 Lakh per month (basic + DA). He received a Gratuity of Rs. 11 Lakhs. He has been in employment for the last 19 years and 7 months.

3. Employees not covered under Gratuity Act

Even if the organisations are not covered under the Gratuity Act, the employer can still pay gratuity to his employees. The gratuity shall be calculated based on half month's salary for each completed year of service.

Calculation of Amount of Gratuity Exempted from Tax:

• Last 10 month's average salary*number of years of employment*1/2
• 10 Lakh (the change in limit of Rs. 20 is not applicable to employees not covered under the gratuity act)
• Gratuity received

Example: Prashanth has been in employment for 25 years and 2 months. The average salary for the last 10 months is Rs. 90,000. The actual gratuity received by him is Rs. 11 Lakhs.