Before going to learn how to calculate the taxable gratuity, we need to understand the basics of gratuity. It is a retirement benefit given by the employer to employees as a reward or a gift in return for certain years of service of the employee.
In India, the payment of gratuity governed by the Payment of Gratuity Act,1972.
Employees can claim gratuity if he has completed a minimum of 5 years of service in a company. This term is not compulsory in case of the termination of employment due to death or disablement.
Payment of gratuity is a statutory requirement as per the Payment of Gratuity Act,1972.
Table of Contents
Calculation of Taxable Gratuity
Employees can claim the tax exemption ,as per from the income received as gratuity. Only salaried employees can claim this exemption under Section 10 (10) of the Income Tax Act, 1961.
Mr Alex works as an insurance agent in Life Insurance Corporation, and if he may receive a bonus after completing certain years of service (say 15 years ) with the LIC, he can not claim exemption as per 10(10) of the Income Tax Act, 1961.
The reason is that these agents are not salaried employees of the Company.
Case 1 – Employees covered under the Payment of Gratuity Act, 1972
Employees included under this category are all the non-government employees, employees working under a foreign government.
Exemption of gratuity income of the employees working in organizations covered under the Payment of Gratuity Act depends on the below three elements.
1 – How much amount he received as Gratuity.
2 – The statutory limit of exemption. It has increased to INR 20,00,000 from previous exemption amount of 10,00,000, after the amendment of Central Government ( The CBDT Notification no. S.O. 1213(E), on 8 March 2019).
3 – 15 days’ Salary for the Completed Years of Services.
We need to calculate Salary and Completed Years of Services
> Salary should constitute the last drawn salary and Dearness Allowances received at the time of ending the employment.
> Calculation of Completed Years of Services. You can see this from the below table.
Calculation of Completed Years of Service
|Years of Work||Completed Years of Service|
|If the person working 10 years and exactly six months||10 Years|
|If a person working 10 years and more than 6 months||11 Years|
|If the years of service is 10 years and less than 6 months||10 Years|
Mr Krishna employed in XYZ Ltd. He retires from the company after serving 20 years and 9 months in the company. At the time of retirement, he received a gratuity of INR 200,000 as per the Payment of Gratuity Act, 1972.
Mr Krishna’s last drawn salary and dearness Allowances was INR 10,000 and his INR 3000 respectively.
How can we calculate the taxable gratuity of Mr Krishna under section 10(10) (ii)?
Calculation of Taxable Gratuity of Mr Krishna for the Assessment Year 2019-2020
|Deduct: Minimum of the below mentioned is exempted|
|– Amount Received As Gratuity from Employer||2,00,000|
|– Statutory Limit of Maximum Exemption||20,00,000|
|– [Last Drawn Salary + DA ] X Completed Years of Services X 15 / 26||1,57,500||1,57,500|
Sometimes, there may be cases where the employees are not working throughout the year in business organizations. They work in particular season, it considered as he works in a Seasonal Establishment.
In the case of an employee working in a Seasonal Establishment, there may be a change in the calculation of the third element. Instead of calculating the 15 days salary every year, it will change to 7 days salary (7/26 X completed Year of Service X Salary pm)
If an employee works for Piece Rate, there the 15 days salary will be computed based on the amount given below
Last three months total wages – Wages paid for Overt time) / 3
Case 2 – Employees Not covered under the Payment of Gratuity Act
Under this category, we can calculate the taxable gratuity of all employees working in non-government organizations and foreign employees not covered under the Payment of Gratuity Act.
Gratuity received by non-government employees, not covered under Payment of Gratuity is also exempted from tax as per the below.
This exception is available under section 10(10) (iii) of the Income Tax Act
To calculate the taxable gratuity, we need to find three elements.
1 – Gratuity received from the employer
2 – Statutory limit. The statutory limit of maximum exception from gratuity under this case is only ten lakh (1,000,000 ) Indian rupees. This amount is twenty lakhs (2,000,000) in case of employees covering under the Payment of Gratuity Act ( Case 1 – Already Discussed above)
3 – We need to calculate the half days’ salary for the completed years of services. Here we need to apply the equation. The fraction of the year is not considering for calculating their completed year of service.
Mr David employed in XYZ Ltd. He retired from the company, after completing twenty years (20) and nine (9) months.
Here the completed years of service is only 20 years.
We need to calculate the Average Salary. So please follow the below steps.
Find out the salary of Mr David for the last ten months immediately preceding the month of retirement. Suppose the person is retired on 25-December-2019. So the last ten months starting from February 2019, March 2019, April 2019, May 2019, June 2019, July 2019, August 2019, September 2019, October 2019, November 2019.
Now, we need to calculate the Dearness Allowance of Mr David for the last ten (10) months immediately preceding the month of retirement. But remember that the DA should not be considered for this calculation if it is not forming part of retirement benefit.
Calculate the Commission of Mr David for the last ten (10) months immediately preceding the month of retirement. This commission must be a fixed percentage of turnover.
Then add all the figures and this sum needed to divided by 10 . The resulting amount will be the Avarage Salary for this purpose.
From the below-given data, we can calculate the Taxable Gratuity Employees Not covered under the Payment of Gratuity Act
|Date of Retirement of Mr Anand||25-Dec-2019|
|Completed Years of Service||30 Years|
|Gratuity received from the employer||INR 4,25,000|
|Basic Salary||INR 10000|
|Dearness Allowances||INR 3000|
|Commission on turnover||1%|
|Employee’s Total turnover in the company||INR 2,00,000|
Computation of Taxable Gratuity of Mr Anand for the Assessment Year 2019-2010
|Particulars||Details||Amount in INR|
|Gratuity Received from Employer||4,00,000|
|Deduct: Minimum of the below mentioned is exempted|
|– Amount Received As Gratuity from Employer||4,00,000|
|– Statutory Limit of MaximumExemption||10,00,000|
|– 1/2 X Average Salary X Completed Years of Services||2,25,000||2,25,000|
Case 3 – Gratuity Received by the Government Employee
As per section 10(10) (i), the gratuity received by the government employees is fully exempt from tax. In this case, the government employees include
(a) Central Government employees
(b) State Government employees
(c) Employees of local authorities
Case 4 – Receipt of Gratuity while continuing in Service.
Gratuity received during the continuation of service is fully taxable in the hand of all employees. In this case, there will not be any exemption to Government employees also.
Case 5 – Receipt of Gratuity after the death of the employee
Gratuity is taxable in the hand of the employee or his legal heir if it is due before the death of the employee. It will not be taxable in the hand of his legal heir if the gratuity is due after the death of the employee.
Recommended for Reading: How to Calculate Taxable Salary
In this article, we discussed the general points with regards to the calculation of taxable gratuity. Whenever you need to calculate the taxable amount of gratuity, you can visit the Income Tax of India website, and there is a link to find the exact amount (given below). You can verify there for the latest updates as the law is constantly amending.