Do all companies need to pay gratuity?
The payment of gratuity is governed as per section 10(10) of the income tax act where any employee who completes more than five years of full time service with a company or organization is entitled for gratuity. As per the Payment of Gratuity Act enacted in 1972, every company or organization with more than 10 employees must pay gratuity to every employee as per law. Companies can choose to pay gratuity money out of their own fund or purchase a group gratuity plan from any life insurance service provider. The amount of gratuity you will be entitled to depends on the number of years of service you have offered as well as the last drawn monthly salary.
The Gratuity Act was passed in the year 1972 and covers employees engaged in mines, factories, oil fields, plantations, companies, ports and other such establishments which have more than ten employees. The gratuity amount, unlike provident fund, is wholly paid by the employer without any contribution from the employee.
Following are the situations when gratuity will be paid out.
- An employee should be eligible for superannuation
- An employee retires
- An employee resigns after working for 5 years with a single employer
- An employee passes away or suffers disability due to illness or accident
Formula for calculating gratuity
Listed below are the components that go into calculating the gratuity amount. The amount is also dependent on the number of years served in the company and the last drawn salary.
N = number of years of service in a company
S = last drawn basic salary plus DA
Gratuity = NS15/26
For example, if Amit is an engineer who has worked with SF Company for 20 years and had Rs.25,000 as his last drawn basic plus DA, then,
Gratuity for Amit = 2025,00015/26 = Rs.2,88,461.54
However, an employer can choose to pay more gratuity to an employee, but then the amount cannot exceed Rs. 10 lakhs. Anything above Rs. 10 lakhs is known as ex-gratia, which is a voluntary contribution and not something compulsorily imposed by the law.
Also, for calculating the number of years of employment, anything above 6 months is rounded off to the next number while anything below 6 months in the last year of employment is rounded off to the previous number. So, a job held for 6 years 7 months will fetch you gratuity for 7 years while that held for 6 years and 4 months will fetch you a gratuity amount for 6 years.
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