In 1972, the government passed the Payment of Gratuity Act that made the gratuity compulsory if the employer has more than 10 employees. As per Sec 10 (10) of Income Tax Act, gratuity is paid when an employee completes 5 or more years of full time service with the employer. In short; if you work in a same company for more than five years you will be eligible to receive gratuity. The employer has to pay you one lump sum amount while leaving the company anytime after five years. An employee may leave his/her job for various reasons, such as; retirement/superannuation, voluntary retirement, switching to another job etc. Even an employee can be benefited with gratuity if he/she loses job because of retrenchment by the company. To reiterate in all such cases employee has to complete 5 years of the working tenure with the same company.

Eligibility Criteria

Gratuity shall be payable to an “employee” on the termination of his/her employment after he/she has rendered continuous service for not less than five years.

1. On his/her Superannuation.
2. On his/her Retirement or resignation.
3. On his/her Death or Disablement due to accident or disease.

However, the condition of five years of continuous service is not necessary if service is terminated due to death or disablement.

Gratuity Income

Fyi such gratuity income will be treated as income for the year when an employee receive and the same goes under the head “Income from Salary”, but if it has been received by nominee/legal heirs of the employee, the same is taxable in their hands under the head “Income from other Sources”.

For the purpose of calculation of non-taxable gratuity, employees are divided into 3 categories such as;

1. Government employees and
2. Non-government employees covered under the Payment of Gratuity Act, 1972
3. Non-government employees not covered under the Payment of Gratuity Act, 1972

Any amount received by a government employee is fully exempted from tax. But in case of gratuity income received by a non-government employee where his/her employer is covered under the Payment of Gratuity Act, 1972 then the maximum exemption of gratuity income from tax will be least of the 3 below:

1. Actual gratuity received;
2. Rs 10,00,000;
3. 15 days’ salary for each completed year of service or part thereof

Note;
a. Here, salary = basic + DA + commission on sales on turnover basis (if it’s a fixed percentage)
b. Completed year of service or part thereof’ means: full time service of > 6 months is considered as 1 completed year of service; < 6 months is ignored. So if the actual figure is 14 years and 7 months, it will be considered as 15 years.
c. Here, number of days in a month is considered as 26. Therefore, 15 days’ salary is arrived as = salary × 15/26

For the non-government employees where the employer is not covered under the Payment of Gratuity Act, 1972 then the maximum exemption of gratuity income from tax will be least of the 3 below:

1. Actual gratuity received;
2. Rs 10,00,000;
3. Half-month’s average salary for each completed year of service (no part thereof)

Note;
a. Here, salary = basic + DA + commission on sales on turnover basis (if it’s a fixed percentage)
b. Completed year of service (no part thereof) means: full time service of > 1 year is considered as 1 completed year of service. < 1 year is ignored.
c. Average salary =10 months’ salary (immediately preceding the month of leaving the job)/10

Seems complex and confusing; right? No issue! Let us understand these with a simple example.

Example: Sunil retired from a private organisation after working for 15 years 8 months. On his retirement he received Rs. 5,00,000 as Gratuity. During the past 12 months from his retirement his basic pay was Rs. 50,000 pm and DA was at Rs. 10,000 pm. His Taxable gratuity amount will be;

Situation 1: If Sunil’s employer is covered under the Payment of Gratuity Act, 1972

Situation 2: If Sunil’s employer is not covered under the Payment of Gratuity Act, 1972

Gratuity

Points to be Noted:

  1. In case gratuity is received from more than one employer during the previous year, maximum exemption allowed is up to Rs 10,00,000.
  2. 7/26 is to be considered in place of 15/26 in case of seasonal establishment (not employed throughout the year).
  3. Gratuity payment to a widow or other legal heirs of any employee who dies in active service shall be exempt from income tax subject to provisions mentioned above Circular No. 573 dated 21.08.90)

Nomination facility: An employee can nominate one or more member of his family by filling Form “F”, as defined in the Act, who will receive the gratuity in the event of the death of the employee.

Forfeiture of Gratuity: The gratuity of an employee whose service have been terminated for any Act of willful omission or negligence causing any damage or loss to or destruction of property belonging to the employer, gratuity shall be forfeited to the extent of the damage or loss caused. The right of forfeiture is limited to the extent of damage.

Know what is all about Gratuity and its Income Tax implications

2 thoughts on “Know what is all about Gratuity and its Income Tax implications

  • February 25, 2014 at 2:38 PM
    Permalink

    IF AN NRI BUYS PROPERTY FROM A NON INDIAN CITIZEN,
    IS TDS TO BE DEUCTED , PL CAN YOU HELP ,OBLIGE PL

    Reply
    • February 25, 2014 at 7:05 PM
      Permalink

      Hi Soni,

      It depends on whether the property is situated in India or not. If its in India then Yes else No.

      Reply

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