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I run an IT Company. Recently, we crossed the 10 employees. I now have an employee who is resigning and whose last date will be 31st May 2021. He would be completing 5 years in June 2021. I had few questions related to gratuity.

1. Is the employee applicable for Gratuity?
2. As an employer, are we eligible for Gratuity? Also, are we liable to pay gratuity? When we had offered the job to the employee, there was no mention of Gratuity.
3. If Gratuity has to be paid, what is the formula it is calculated upon? On the internet, I found different formulae and wasn't sure which one was correct?
4. While calculating gratuity, do we need to use full monthly salary or Basic + Dearness Allowance? Also, what is the dearness allowance? Our current salary is divided into Basic Salary, Conveyance Allowance, HRA, Medical Allowance, Special Allowance.

It would be great if someone can help us out of this.
Thank you.

From India, Pune

Since the date on which the number of your employees has become ten, the Payment of Gratuity Act will apply to your establishment and the employees who leave the company after completing 5 years of service calculated from the date of their joining would be eligible to get gratuity irrespective of the fact that at the time of their joining the Act was not applicable to the establishment and there was no mention about payment of gratuity in the offer letters.

In respect of employees leaving the company even one day before completing 5 years you have no liability to pay gratuity. However, there are few High Court verdicts (Kerala High Court and Madras High Court for sure) which permits payment of gratuity to employees who have completed 4 years and 240 days in the fifth year.

240 days is the minimum number of days in a period of 12 months required to qualify for "continuous service". In other words, an employee has to have at least 240 days paid days (days on which he is paid salary and shall invariably include paid weekly off days, holidays, leave days) in each year to have continuous service.

Gratuity is calculated on the last salary paid to the employee. Salary means the amount agreed to be paid to the employee. There has been interpretations that salary means Basic salary and dearness allowance. But in private organisations in which total emolument is bifurcated in to small compartments for no reason (or for employer's belief that all statutory contributions like PF, Bonus, leave encashments and also gratuity is calculated on Basic salary and dearness allowance) the calculation can be challenged. This is simply due to one reason. For example, an employee's salary is Rs 60000 of which basic salary is Rs 8000 and DA is Rs 4000 and there are allowances like HRA, conveyance etc which constitute the balance. The company will pay PF, bonus, leave encashment and gratuity on Rs 12000 (on Basic and DA alone) BUT if that employee takes a couple of days' leave without pay, the two days' pay to be deducted will be calculated on Rs 60000!! This is because HRA, conveyance etc are fixed components and are part of their salary. Had it been like the employee stays in a rented house and the rent of that building is paid by the company and, obviously, if he is taking two days' leave the house owner will be paid full rent and not a fraction is reduced. That is outside the scope of salary and certainly it shall be excluded. But fixed components forming part of salary should be included in the salary.

Please follow the link by the same author
Madhu T K: Payment of Gratuity and Gratuity Qualifying Salary

Coming to a component, Special allowance, there are Apex Court verdicts that special allowance paid to those employees considering special skill required to perform a job shall be excluded from salary but special allowance paid to all employees will form part of salary.

Dearness allowance is an allowance paid to employees to compensate the changes in the cost of living indices. It is normally a variable amount which will vary with changes in the consumer price index. DA is a component of statutory minimum wages. However, it is not mandatory that we should have a component like DA in our salary structure.

Gratuity is calculated at the rate of 15 days' average salary for every completed year of service. A fraction of service of more than 6 months shall be treated as one year and any service less than 6 months shall be ignored. For arriving at the average salary the monthly salary shall be divided by 26 and not by 30.

From India, Kannur
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