The government notified the Payment of Gratuity (Amendment) Act, 2010 on May 18, 2010, which increases the limit of gratuity payment to employees in the specified sectors/establishments covered under the Payment of Gratuity Act, 1972 (“Gratuity Act”).
After the amendment, these employees are eligible to receive gratuity up to Rs 10,00,000, which was earlier restricted to Rs 3,50,000. Thus, crores of workers will be benefited in establishments covered by the Gratuity Act.
Meaning of Gratuity
Gratuity refers to the emoluments received by an employee from his employer in gratitude for the services rendered. Such sum can be paid on retirement, resignation, superannuation, death or disablement.
Under the Gratuity Act, the sum can be paid only after an employee has rendered continuous service of not less than five years. Exceptions being termination of employment on account of death / disablement.
Taxability of Gratuity
From a tax perspective, gratuity received by an employee is taxable as salaries. The Income Tax Act segregates the employees receiving gratuity on the following basis:
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Government employees;
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Non – Government employee covered under the Gratuity Act.
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Non – Government employee and not covered under the Gratuity Act.
Based, on the above segregation, necessary exemptions from tax can be claimed on the gratuity received.
Exemption available for employees covered under the Gratuity Act
In case of employees covered under the Gratuity Act, exemption is limited to the extent of minimum of the following:
i) Gratuity actually received
ii) 15 days salary for every completed year of service or part thereof (i.e. services in excess of 6 months will be treated as full year service)
iii) Rs 3,50,000 (the maximum limit as provided in the Gratuity Act)
The increase in limit to Rs 10,00,000 in the Gratuity Act (from the erstwhile Rs 3,50,000) in a way indicates that the tax exemption may also increase.
Tax impact of the amendment
The tax impact can be explained by way of an example. Suppose, Mr A retires from a software company after servicing for 35 years and at the time of retirement his basic salary was Rs 50,000 per month.
Upon retirement, Mr A is eligible for a gratuity payout of Rs 10,00,000 and is covered under the Gratuity Act. The taxable amount of gratuity would be as under in different scenarios:
| Taxable Gratuity – Pre Amendment | Taxable Gratuity – Post Amendment |
| Least of the following shall be exempt : | Least of the following shall be exempt : |
| 1) Actual gratuity received – Rs 10,00,000 | 1) Actual gratuity received – Rs 10,00,000 |
| 2) 15 days salary for every completed year of service or part thereof – 50,000 X 15/26 X 35 = Rs 10,09,615 | 2) 15 days Salary for every completed year of service or part thereof – 50,000 X 15/26 X 35 = Rs 10,09,615 |
| 3) Rs 3,50,000 | 3) Rs 10,00,000 |
| Exempt Gratuity = Rs 3,50,000 | Exempt Gratuity = Rs 10,00,000 |
| Taxable Gratuity = Rs 10,00,000- 3,50,000 = Rs 6,50,000 | Taxable Gratuity = Rs 10,00,000- 10,00,000 = NIL |
This example indicates that by increasing the limit, Mr A will be getting more gratuity and also a significant tax benefit.
Open issues
There are some open issues in terms of the date from which the higher limit is applicable and whether a separate clarification / notification will come from a tax perspective. The increase in limit has got the president recently and it seems that the open issues will get clarified soon.
Conclusion
The above amendment in the Gratuity Act is a welcome step by the government and will bring lots of cheer to employees across the private sector.
