Brief about Gratuity & its applicability
Gratuity being an important retirement benefit to employees in the Indian context is relevant for all organizations (i.e. MNC's, Schools and Other business entities) having more than 10 employees. Since an employee sacrifices he prime time of his life for the development, prosperity, and betterment of his employer, the employer pays his employee gratuity as a graciousness or gift to him, when he no longer serves him.
Determination of Gratuity Amount
The amount of Gratuity payable to an employee on his exit from service, according to “The Payment of Gratuity (Amendment) Act 2018 ”, in force at present, is:-
(Wages of the employee at the time of exit) x (15/26) x (Number of Years of Service at the time of exit)
This is subject to a ceiling limit of 20,00,000/- effective from 29.03.2018. Gratuity can be paid over and above 20,00,000/- also.
Conditions for payment of Gratuity
Gratuity is payable to an employee on exit from service after he has rendered continuous service for not less than five years:
(a) On his superannuation
(b) On his resignation
(c) On his death or disablement due to employment injury or disease.
In the case of (c) vesting condition of 5 years does not apply.
Factors contributing an exponential increase in the amount of Gratuity
Gratuity is a statutory right of employee whoever completes 5 years in the same organization and the cost of Gratuity is to be borne by the Organization and not by an employee. Gratuity is a defined benefit in nature and it increases nearly exponentially with the changes following:-
(a) Past Service of Employee,
(b) Increase in wages of Employee,
(c) Change in Benefit Formula of the Gratuity Benefit due to the amendment in Act,
(d) Change in Ceiling Limit on Gratuity Benefits due to the amendment in the Act &
(e) Change in Vesting Condition for eligibility of Gratuity Benefits due to the amendment in the Act.
(f) Change in the applicability of compulsory insurance for Gratuity by *State Governments due to amendment in the act.
(State of Andhra Pradesh notified about the compulsory insurance for Gratuity under Andhra Pradesh Compulsory Gratuity Insurance Rules, 2011vide Lr.No. M1/8842/2010, dated: 04.12.2010 from the Commissioner of Labour, Andhra Pradesh and remains un-notified for rest of India).
*Applicability of compulsory insurance for Gratuity can be notified by the other State Governments because compulsory insurance of gratuity secures the gratuity benefits of an employee even in case of bankruptcy of the Organization.
Employers liability for Payment of Gratuity under the Act
Section 7 of the Act has kept obligation for payment of gratuity act on the shoulders of the employer, few provisions of this section act are listed below:-
1. As soon as Gratuity becomes payable, it employers responsibility to determine the amount of gratuity and inform it to the employee in writing (Refer Sub Section 2 of Section 7 of the Act).
2. The employer shall arrange to pay the amount of gratuity within 30 days from the date when it becomes mandatory. (Refer Sub-section 3 of Section 7 of the Act).
3. If the amount of gratuity is not paid within 30 days then the amount of gratuity and simple interest will be paid by the employer to the employee for the duration when the payment is not made to the employee. (Refer Sub-section 4 of Section 7 of the Act).
Options available for Gratuity Liability Management
Organizations have 2 options for management of Gratuity Liability:-
1. Provisioning of Gratuity Liability on the accrual basis in their balance sheet at the end of each financial year.
2. Creating an Irrevocable Gratuity Trust and contributing 8.33% of annual basic remunerations into Gratuity Trust
Why Funding Option is preferred and Approval Gratuity Fund is required
Companies make provision of Gratuity liability in the balance on annually on accrual basis based on actuarial report but it is not allowed as deduction whilst computing net Income of Income Tax (Refer Section 47A (7) of Income Tax Act 1961), So companies prefer to create Trust , and make initial and annual contribution into Trust and Gratuity Fund is formed.
The Initial and Annual contribution made by the companies into Gratuity Fund is allowed as expense under Section 36(1)(v) of Income Tax Act, 1961, which reads as under :-
“any sum paid by the assessee as an employer by way of contribution towards an approved gratuity fund created by him for the exclusive benefit of his employees under an irrevocable trust”
The interest earned by an approved Gratuity Fund is also tax-free under Section 10(25)(iv) Income Tax Act, 1961. which reads as under:-
"any income received by the trustees on behalf of an approved gratuity fund"
The above tax benefits are available to the company when approval of Gratuity Fund from the Income Tax Department under Part C of Schedule IV of Income Tax Act 1961 is received.
The establishment of Gratuity Trust requires in-depth knowledge of various rules/regulations and expertise.
Head Consultant 25th May 2019 From India, Delhi