is gratuity taxable in india

Understanding Gratuity Taxation in India

Gratuity is a form of retirement benefit provided to employees who have completed a certain number of years of service with an organization. It is a one-time payment made by an employer to an employee as a token of appreciation for their long-term service. Understanding the taxation of gratuity in India is crucial for both employers and employees to ensure proper tax planning and compliance.

Table of Contents

1. Introduction to Gratuity

2. Types of Gratuity

   • Statutory Gratuity

   • Non-Statutory Gratuity

3. Taxability of Gratuity

   • Tax Exemption Limits

   • Tax Treatment of Statutory Gratuity

   • Tax Treatment of Non-Statutory Gratuity

4. Calculation of Gratuity

   • For Employees Covered Under the Payment of Gratuity Act, 1972

   • For Employees Not Covered Under the Payment of Gratuity Act, 1972

5. Tax Planning for Gratuity

6. Recent Amendments and Updates

7. Conclusion

Introduction to Gratuity

Gratuity is a financial benefit given by employers to employees who have completed a minimum period of continuous service. It is intended to reward long-term service and is governed by the Payment of Gratuity Act, 1972, for establishments covered under this act. For others, it may be provided based on company policy.

Types of Gratuity

Statutory Gratuity

Statutory Gratuity is mandated by the Payment of Gratuity Act, 1972, and is applicable to employees working in establishments with 10 or more employees. Key points include:

• Eligibility: Employees must have completed at least five years of continuous service.

• Calculation: Based on the formula provided in the act.

• Tax Exemption: Subject to tax exemption limits under Section 10(10) of the Income Tax Act.

Non-Statutory Gratuity

Non-Statutory Gratuity is not governed by any specific law and is provided based on company policy. It is applicable to employees not covered under the Payment of Gratuity Act or those who receive additional gratuity benefits. Key points include:

• Eligibility: Varies based on company policy.

• Calculation: Based on company-defined rules.

• Tax Exemption: Subject to tax exemption limits under Section 10(10) of the Income Tax Act.
  

Taxability of Gratuity

Tax Exemption Limits

Gratuity received by employees is subject to tax exemption limits under the Income Tax Act. The extent of exemption depends on the type of gratuity and the applicable rules.

For Employees Covered Under the Payment of Gratuity Act, 1972

1. Tax Exemption Limit: Under Section 10(10)(ii) of the Income Tax Act, the gratuity received is exempt up to ₹20 lakhs (as of the financial year 2023-24). This limit is applicable to employees covered under the Payment of Gratuity Act.

2. Calculation: The exempt amount is the lower of:

   • Actual gratuity received.

   • ₹20 lakhs.

   • Gratuity calculated as per the Payment of Gratuity Act.

For Employees Not Covered Under the Payment of Gratuity Act, 1972

1. Tax Exemption Limit: For non-statutory gratuity, the exemption limit is also under Section 10(10)(iii). The exempt amount is the lower of:

   • Actual gratuity received.

   • ₹10 lakhs.

   • Gratuity calculated as per the employer’s policy.

2. Calculation: Non-statutory gratuity is subject to tax unless it falls within the specified exemption limits.
   

Tax Treatment of Statutory Gratuity

Statutory gratuity is exempt from tax up to the specified limit, provided it is received on retirement, resignation, or death. Any amount exceeding the exemption limit is taxable as income under the head “Salaries” and must be included in the individual’s taxable income.

Tax Treatment of Non-Statutory Gratuity

Non-statutory gratuity is taxed based on the provisions under Section 10(10)(iii) of the Income Tax Act. If it exceeds the exemption limit of ₹10 lakhs, the excess amount is taxable.

Calculation of Gratuity

For Employees Covered Under the Payment of Gratuity Act, 1972

1. Formula: Gratuity = (Last drawn salary × 15/26) × Number of years of service.

   • Last drawn salary: Includes basic salary and dearness allowance.

   • 15/26: Represents 15 days’ salary for every completed year of service, divided by 26 working days.

2. Example: If an employee's last drawn salary is ₹50,000 and they have worked for 10 years, the gratuity calculation would be:

   • Gratuity = (₹50,000 × 15/26) × 10 = ₹2,88,462.
     

For Employees Not Covered Under the Payment of Gratuity Act, 1972

1. Company Policy: Gratuity calculation is based on the company’s policy and may vary.

2. Example: If a company provides ₹1,00,000 as gratuity for every completed year of service, and an employee has worked for 15 years, the gratuity would be:

   • Gratuity = ₹1,00,000 × 15 = ₹15,00,000.
     

Tax Planning for Gratuity

To manage and optimize tax liability on gratuity:

1. Maximize Exempt Amount: Ensure the gratuity received is within the exemption limits to avoid tax.

2. Invest in Tax-saving Instruments: Consider investing in tax-saving instruments to offset taxable income.

3. Seek Professional Advice: Consult a tax advisor to understand the implications and optimize tax planning.

Recent Amendments and Updates

1. Budget Announcements: Keep an eye on annual budget announcements for any changes in tax exemption limits or rules regarding gratuity.

2. Regulatory Updates: Stay updated with changes in tax regulations and compliance requirements related to gratuity.
   

Conclusion

Gratuity is an important component of employee compensation and provides financial security at the time of retirement or separation from the organization. Understanding the tax implications and exemption limits of gratuity helps in effective financial planning and compliance. For personalized tax advice and assistance with gratuity-related queries, visit AnkitPJain.com, where our experts provide tailored support to meet your needs.