What is gratuity?
Gratuity is a lump-sum payment an employer makes to an employee as a reward for long service. It is governed by the Payment of Gratuity Act, 1972, which applies to every factory, mine, port, railway, shop or establishment with 10 or more employees. Once an establishment is covered it stays covered even if headcount later falls below 10. Gratuity is paid when you resign, retire, are retrenched, or on death or disablement, and it is separate from your provident fund and leave encashment.
Eligibility
You become eligible after five years of continuous service with the same employer. The five-year condition does not apply if employment ends due to death or disablement. Several High Courts, including Madras and Kerala, have held that four years and 240 days of service in the fifth year count as five years, and many employers follow this. A break for maternity leave, strike, lockout or an accident does not interrupt continuous service.
The gratuity formula
For employers covered by the Act:
Gratuity = last drawn (basic + dearness allowance) × 15 ÷ 26 × years of service
The 15/26 factor represents 15 days’ wages for every completed year, using a 26-day working month. Any part of a year beyond six months is rounded up to a full year, so 10 years and 7 months counts as 11 years, while 10 years and 5 months counts as 10. Only basic salary and DA are included; HRA, bonus, overtime and other allowances are excluded.
Employers not covered by the Act often still pay gratuity as a matter of policy, usually as half a month’s salary (15 ÷ 30) for every completed year, without rounding up. Select the option that matches your employer.
Tax on gratuity
Gratuity received by central and state government employees is fully exempt. For everyone else the exemption is the least of the actual gratuity received, the amount computed by the formula, and ₹20 lakh, which is a lifetime limit across all employers. Anything above the exempt amount is taxed as salary income in the year it is received. Gratuity received by the nominee on the employee’s death is fully exempt.
Example
An employee with a last drawn basic plus DA of ₹50,000 who leaves after 10 years and 7 months receives ₹50,000 × 15 ÷ 26 × 11 = ₹3,17,308, entirely tax-free. Had the tenure been 10 years and 5 months the count would drop to 10 years and the payout to ₹2,88,462.
When and how it is paid
The employer must pay gratuity within 30 days of it becoming due; after that, simple interest is payable. Submit Form I to your employer, and if the claim is rejected or delayed you can approach the Controlling Authority under the Act. Employers may forfeit gratuity only for wilful damage, violence or moral turpitude during employment, and only to the extent of the loss caused.
Frequently asked questions
Who is eligible for gratuity?
Employees who complete 5 continuous years with the same employer are eligible, except in case of death or disablement where the 5-year rule does not apply. Several courts have accepted 4 years and 240 days as continuous service.
How is gratuity calculated?
For employers covered by the Payment of Gratuity Act: (last drawn basic + DA) × 15 ÷ 26 × years of service. A part-year of more than 6 months counts as a full year. Employers not covered use 15 ÷ 30 and completed years only.
Is gratuity taxable?
Gratuity is tax-free up to ₹20 lakh for private-sector employees (fully exempt for government employees). Any amount above the limit is taxed as salary income.