Both private sector employees, as well as government employees, are eligible to receive the gratuity. The gratuity amount is tax-free if it is given according to the formula prescribed by Payment of Gratuity Act, 1971. It is very simple to calculate your gratuity amount in advance. This article explains how to calculate gratuity for employees covered under the Gratuity Act, as well as for those employees who are not covered under the Gratuity Act.
Who is covered under the Gratuity Act?
All employees at a workplace where more than 10 people are employed are covered under the Gratuity Act.
Gratuity calculation for employees covered under the Gratuity Act:
The formula for calculating the gratuity amount depends on the last drawn salary and period of service.
Gratuity Calculation Formula
Gratuity Formula = Number of years × Last drawn salary of 15 days
= Number of years × 15/26 × Monthly salary
Salary
- In this formula, salary includes basic salary and dearness allowance.
- Here, salary does not include bonuses, HRA, special allowances, and reimbursements. This is why private sector employers keep the basic salary to a minimum.
- The last drawn salary amount is take into consideration to calculate gratuity.
- Every month is considered to have 26 days. This is because according to labor laws, every employee must get weekly offs.
- Hence, to calculate the last drawn salary of 15 days, first divide the salary by 26. And then multiply it by 15.
Number of Years
- To calculate gratuity, round off the number of years to the nearest integer.
- For example, if you have completed 6 years and 7 months of service, round it off to 7 years. And if you have completed 6 years and 5 months, consider it as 6 years.
Example of Gratuity Calculation
Lets take an example of Mr.A who has the following particulars:
Basic Salary = Rs.10,000
Dearness Allowance = Rs.2000
Number of Years of Service = 7 years and 4 months
Now, to calculate the gratuity, the salary will be Rs.12,000 and the number of years will be 7.
Hence, gratuity = 7 × 15/26 × 12,000
= Rs.48,461
Gratuity calculation for employees not covered by the Gratuity Act:
Employers who don’t come under the Gratuity Act can also give gratuity to their employees. There is a different formula for this. If given according to the formula, the gratuity amount is tax-free.
Formula
Gratuity = One day salary × 15 × Completed years
= (Average salary of the last 10 months)/30 × 15 × Completed years
Salary
- In this case, along with basic salary and dearness allowance, commission is also included. But commission must be a percentage of sales.
- Here the last drawn salary is not considered. Instead of that, take the average of the last 10 months’ salary into account.
- Also, to get the per day salary, you have to divide the average by 30 (and not 26).
Number of Years
- To calculate the gratuity, only the number of full completed years is taken into account.
- For example, if you have worked for 5 years and 9 months, the number of years is taken as 5.
Hence, from the above points you can note that employees who are not covered under the Gratuity Act are at a slight disadvantage.
Gratuity calculation for daily wage employees:
Gratuity calculation for daily wage earners is also a little different.
Formula
Gratuity = Average daily wage of the last 90 days × 15 × Years of service
Salary
To calculate gratuity take the average daily wage of the last 90 days as one day’s salary.
Example of Gratuity Calculation
Consider the following example of Mr.B:
Daily wage till a month ago = Rs.500
Daily wage of all of the last month = Rs.700
Overtime charges = Rs.2000
Number of years of service = 6 years and 7 months
Average daily wage of last 90 days = 〈(500 × 60) + (700 × 30)〉/90 = Rs.566 (Do not add overtime.)
Gratuity = 566 × 15 × 6 = Rs.50,940
Remember that an employer can give as much gratuity as he or she wants. The formula only gives the minimum amount of gratuity. If the employer gives gratuity in excess of the formula, the excess is taxable.
To read about gratuity eligibility and rules, please click here.