Gratuity is a lump sum amount paid by the employer to their employees as a token of appreciation for the services rendered by them towards the company. It is also important to know that what are the eligibility and the amount of gratuity that an employee can receive.

**What is gratuity in salary?**

**What is gratuity in salary?**Under the Payment of Gratuity Act 1972, gratuity is monetary amounts payable to an organization’s employees. The pay is usually given as a token of appreciation for the employee’s contributions to the company. Employee gross salary is comprised of several components, including gratuity payments.

The gratuity amount is only available to employees who have completed at least five years of service with the company. The company pays it as a token of gratitude to the employee for their contributions to the company.

**Formula for calculating the gratuity?**

**Formula for calculating the gratuity?**The amount of gratuity an employer will pay an employee is calculated using a simple mathematical formula. Here is the formula for gratuities:

**Gratuity Amount = Y x S x 15/26**

A Y represents the number of years in the organization, and S represents the last salary, including DA that was drawn.

To determine gratuity amounts for non-government employees, the Payment of Gratuity Act, 1972 categorizes them as follows:

- For employees covered under the Act
- For employees not covered under the Act

**1. For employees covered under the Act**

**1. For employees covered under the Act**Gratuity is calculated according to a formula. Each completed year or part over six months is calculated based on 15 days of the last drawn salary.

The last drawn salary refers to the income received from salaries, dearness allowances, and sales commissions.

Consider A, who worked for XYZ Ltd for 20 years and seven months and is drawing Rs 60,000 per month as his last basic pay. The following formula will calculate gratuity in this case:

**(15 X 60,000 X 21)/26 = Rs. 7.26 lakh**

**2. For employees not covered under the Act**

**2. For employees not covered under the Act**Generally, employers are permitted to pay gratuities to their employees even if the Act does not cover them.

During each completed year, the employee is entitled to one-half month’s salary as gratuity. Similarly, the salary includes the basic salary, dearness allowance, and a commission based on sales.

Following is the formula:

**(15 X last 10 months average salary X tenure of working) divided by 30**

According to the example above, if the Act did not cover A’s organization, his gratuity would be calculated as follows:

Firstly, we need to calculate average salary = sum of last 10 months salary divided by 10

e.g. Apr to Aug employee earned Rs. 55000 per month as basic and from Sep to Jan employee earned Rs. 65000 per month as basic then average salary would be 55000*5+65000*5/10=60000 would be last 10 months average salary

**(15 X 60,000 X 20) /30 = Rs 6 lakh**

The number of years of service is calculated according to the number of completed years. In this case, since A has been with the company for 20 years and seven months, his tenure will be taken as 20 years and not 21 years.

An employee who dies is entitled to gratuity based on the length of their service, which is limited to Rs 20 lakh.

**Possible conditions for gratuity**

**Possible conditions for gratuity**In terms of service years, the following conditions may apply:

According to the years of service involved, there are three possible scenarios:

- Specify the exact number of years (for example, 5, 6, etc.)
- The number of years plus months is less than 6 (for example, five years and four months).
- In years plus months, it must equal or exceed 6 (e.g., five years and seven months).

In this case, the gratuity calculation for the first condition has already been described. The next step is to calculate gratuity for the rest of the items.

**Condition 1:**

**Condition 1:**We assume you have worked for six years and three months, and your last salary was 50,000 rupees (INR).

The following is the formula for calculating gratuities:

**G = 6 x 50000 x 15/26 = 1,73,077 INR**

**Condition 2:**

**Condition 2:**The number of completed years is seven and 8 months, and the last amount drawn is 50,000 rupees (INR).

Here is how gratuities are calculated:

**G = 8 x 50000 x 15/26 = 2,30,769 INR**

It is considered that a period of more than six months is one year to calculate gratuity. Therefore, seven years and eight months are considered eight years.

**Maximum amount of gratuity**

**Maximum amount of gratuity**An employer is responsible for determining a gratuity’s total amount for an employee. This formula will help you determine the minimum gratuity amount to be rewarded.

The latest 7th pay commission stipulates a maximum gratuity amount of Rs. Twenty lakhs may be paid to an employee.

**How does Gratuity work?**

**How does Gratuity work?**The employer may either pay their employees the gratuity amount from their own contribution or account or opt for a general gratuity insurance plan with a service provider. The company then pays annual contributions to the service provider, and in return, the insurance company can pay the gratuity amount to the employee.

**Eligibility criteria for payment of gratuity**

**Eligibility criteria for payment of gratuity**The following criteria must be met for gratuities to be paid:

An employee should be eligible for superannuation.

Retiring from service is required.

He should have served the company for at least five years without interruption to resign.

Gratuity are paid to employee or employee’s nominee if employee die or become disabled due to sickness or accident.

**Taxation rules on gratuity**

**Taxation rules on gratuity**

Different tax rules for gratuity depend on which type of employee receives it.

- If Central/State Govt, defence and local bodies – The entire amount received will not attract any tax
- Employees covered under the Act –
- The amount which is the least of the following is exempt from taxation –
- Actual Gratuity received
- Rs. 20 Lakh
- (15*last drawn salary * number of completed years of service)/26

- The amount which is the least of the following is exempt from taxation –
- Employees not covered under the Act –
- The amount which is the least of the following is exempt from taxation –
- Actual gratuity received
- Rs. 10 Lakh
- (15*average salary for last 10 months * number of years employed)*30

- The amount which is the least of the following is exempt from taxation –
- It should be noted here that the Rs. 20 Lakh denotes the cumulative gratuity received from all employers in one year or different years.