Salary Restructuring Concerns: Are There Legal Risks in Reducing Basic Pay?

Please advise...

We currently have our salary structure bifurcated into basic, transport, and HRA. Now we want to restructure it and introduce allowances like special allowance, city allowance, etc., to control the employer's liability (PF contribution, encashment of leaves, gratuity) which is directly affected by the basic salary.

My query is for people whose present basic salary is more than 6500/- p.m., will it attract any legal implications if their basic salary gets reduced? For example, if the present salary is 10000 basic + 2000 HRA and we restructure it as 8000 basic + 2000 HRA + 2000 SPECIAL ALLOWANCE, will it attract any legal complications as we are reducing the basic salary component? Note that we have a ceiling limit for PF contribution at 6500/- p.m.

Please clarify.

Rolly

Basic:
HRA - 30% of Basic (Non-Taxable on Producing HRA Receipt)
CCA - 40% of Basic (Taxable)
Medical - 15000/12 (Will be Non-Taxable)
Telephone - Can be Basic/12 (On Producing Bills can be non-taxable, but the company will have to pay FBT)
Books and Periodicals - (Taxable)
Special HRA (Taxable)
Food Allowance/Coupons: 1250 (Non-Taxable)
Special Allowance (Can keep it Flexible for offer Negotiation and will be taxable)
LTA: One month Basic
Bonus/X-Gratia: One month Basic
The company can also provide a loan at a lower interest, and the interest benefit can also be the cost of the CTC.
Please do let me know for more clarification.
Gunjan

Dear Friend,

You can reduce your basic by introducing points such as:

- Basic
- HRA
- Conveyance
- Special allowance (company's allowance)
- COLA
- Shaving allowance, etc.

Please review and adjust your compensation package accordingly. Let me know if you need any further assistance.

Thank you.

Dear Jaya,

Are you very sure that reducing the basic does not attract any legal implications as other benefits also get affected...

Hi!

Why are you restructuring the basic also? If an employee is getting a basic of 10000 p.m (Basic is very important. Everything depends on the basic like allowances, HRA, PF, Gratuity, etc.). So if you have to restructure, do it on allowances.

Do you have a C&B manager in your organization? Check with him or any finance person.

Hi,

The reason we need to restructure the basics is that since the beginning, we have only had basic and HRA as components. Therefore, older employees have a basic salary ranging from 25K to 30K per month. There is no issue with PF as there is a ceiling of 6500/-. However, our employer liabilities are high when it comes to gratuity, bonus, leave encashment, etc., due to the high basic salary.

We are considering reducing the basic salary for such employees. We want to know if this is legal.

Rolly

You should not reduce the basic salary. Please refer to the EPF Act Section 12.

Regards,
Pradipta

Hi Pradipta,

We will not reduce the basic salary for employees earning less than 6500/-. However, we are considering reducing the basic salary of employees who are not covered by PF, as their basic salary exceeds 6500/-.

Regards,
Rolly

Hi Rolly,

As far as I know, there should not be any complications for the restructuring of the basic salary of employees whose PF is not deducted. The only thing you have to consider or look into is the Income Tax Act, which states that the basic salary should be 60% of the gross salary, and all other allowances depend on the basic.

So you can go ahead and restructure the same. You can also consult some accounts people to ensure employees receive maximum benefits regarding saving on TDS.

Thanks,
Aditya Gupta

Dear Rolly,

You can reduce the basic, as according to the act, the basic should not be less than 35% of the gross salary. Beyond this, it's management's decision to decide the % of basic according to themselves. Well, if you reduce the basic, the company's liability will reduce towards employer PF, and employees will get more take-home salary as employee PF, ESI, and EPS will also be reduced respectively.

Still, have any queries, feel free to ask.

Deepika
HR Manager

Reducing the basic salary will not have any legal implications, but this will not attract anyone because in most organizations, the CTC hike is normally given on the basic salary. The basic salary has a significant impact on the CTC as most components are calculated based on it.

Hi Deepika,

Thanks for the reply. So, you mean to say that we can reduce the basic of those employees who have less than ₹6500 as long as it is more than 35% of the total gross salary. Or is it advisable that we continue with the same structure for basics less than ₹6500 and alter the structure for those who exceed the PF limit?

Another thing - are you sure the percentage is 35% of the gross?

Rolly

Dear Rolly,

I do not think you would face any legal problems. However, for safety measures, check with your legal department. As per my knowledge, everything depends on the company.

Thank you.

Hi Deepika,

According to the PF Act, the basic can be 100% of the gross but should not be less than 35% of the gross. It depends on your company to decide the percentage of the basic, as it varies from company to company.

Now, coming to your point, if an employee's basic is less than 6500/-, then it is mandatory to deduct PF from the employee's salary. However, if the basic is more than 6500/-, then it depends on the mutual understanding of the employer and employee to deduct PF; in this case, it is not mandatory.

If you want to reduce the company's liability towards employer PF, you can do one thing: increase the CTC of the employee and deduct the employer PF from the employee's account because employer PF is included in CTC. Alternatively, you can reduce the basic so that employer PF is reduced.

One important thing to note is that for both employees whose basic is 6500/- or less and those whose basic is more than 6500/-, the basic percentage of the gross should be the same.

Now, it's your decision on what you want to do in your company.

Best regards

Thank you so much, Deepika. And one more thing... as you said - the basic percentage should be the same for all employees, whether less than 6500/- basic or above the PF ceiling limit. So, are you sure you cannot have two salary slabs? For example, Basic - 60% for employees earning under 1.5 lacs p.a. salary and Basic - 50% for employees earning over 1.5 lacs p.a. salary. Is it a legal violation?

It depends on company to company. Some could be as basic as 30%, while others may be as high as 60%, etc. But still, I respect your reply.

Dear Rolly,

Earlier, I wrote that basic percentage should be the same, but after discussing with some higher-ups in accounts, I learned that the basic amount can vary from employee to employee. You have the flexibility to decide on different percentages of basic for different employees.

Following your suggestion, you can structure your salary as basic + HRA + special allowances. Additionally, if you wish to reduce the company's liability towards employer PF, you can consider deducting employer PF from the salaries of employees whose salary exceeds 6500/-. Although it is not mandatory to provide employer PF for them, they may still request it. By deducting the employer PF, the company's liability will not increase.

It is crucial to note that this rule should only apply to new joiners. The basic salary cannot be changed during an employee's tenure. If you intend to adjust the basic and incorporate special allowances, you should release the employee for one month, then reappoint them at the beginning of the company and implement the new rule.

You have the liberty to add any components to the salary, such as special allowances, but you cannot reduce the basic amount midway. Doing so could lead to a reduction in both employee and employer PF, which employees may object to.

You can implement the following actions:

1. Deduct employer PF from employees' salaries.
2. Modify your rules for leave encashment as needed.
3. Deduct HRA and include this amount as special allowances.

If you have any further queries, feel free to ask.

Deepika

Few points:

- In this year's increments, do not increase the amount in the basic. Instead, do it on allowances or add a few more components.
- For increment purposes, check this: http://www.dhanbank.com/careers/ctc_officers.pdf

Hi Deepika,

You have been a great help, and I am bothering you again. I was certain that basic cannot be reduced within the tenure of the employee, and you clarified it as well.

I want to know about those people whose basic is above 6500/- and thus get a fixed PF contribution of Rs. 780/-. Can their basic be reduced, for example, from 20K a month basic to 12K, as their PF contribution remains unchanged? Or is it that their basic cannot be reduced as well? I hope I am clear.

Rolly

Dear Rolly,

Could you clarify your example for me, i.e., reduced from 20k to 12k, and the PF remains unchanged? This will help me assist you better. What are you trying to convey?

Deepika

See, I mean... We all know that we can put Rs. 6,500/- as the ceiling limit for PF. Even in our company, we do not pay PF for over Rs. 6,500/- basic i.e. all those people who have a basic salary of Rs. 6,500 or more get a fixed PF of Rs. 780/- per month. So, let's say person A gets Rs. 20,000 basic. His PF contribution is Rs. 780/- per month as we have a ceiling. Therefore, if his basic is reduced to Rs. 12,000 per month, his PF remains Rs. 780/- as his basic is still above Rs. 6,500/-. Now, what I mean to ask is whether such cases, which are not affected by decreasing the basic as far as PF contribution is concerned, can be restructured without making them resign for one month. Hope I am clear.

Dear Rolly,

You are in big confusion. Your knowledge is wrong that if an employee has 6500/- or more basic, then his PF will be 780 fixed.

See Rolly, first don't say that 24k or 12k monthly is the basic of any particular employee. These are gross salaries, not basic. Now, gross salary is divided into break-ups like basic + HRA + special allowances + conveyance + medical, etc. (depends on the company's norms).

Now, you can decide in your company the % of basic and % of HRA. For example, suppose the gross salary is 12,000 (12k) of any employee, now you can decide in your company the % of basic (like basic will be 60% of gross, HRA will be 30% of gross, and special allowances will be the rest 10% of gross).

Now, the salary breakup of gross-12,000 will be:

Basic - 7200 (60% of gross)
HRA - 3600 (30% of gross)
Special Allowances - 1200 (10% of gross)

Now, come to PF, PF is never fixed. It is always 12% of basic (in this case, PF will be 864) and employer PF will also be 864 (it is also 12% of basic).

Now the salary will be in hand:

12,000 - 864 - 864 = 10,272 (now employer PF is deducted from the employee salary)

There is no such type of word as the ceiling limit of PF (like 780, as you said), but according to the law, again I will say, if the employee has 6500/- or less basic, then PF is mandatory, and if the basic is more than 6500/-, it's not mandatory but PF will be deducted always 12% of basic... there is no ceiling limit.

Now, if the employee's salary is 24k, then the basic will be 14400 (according to my example, 60% of gross), then PF will be 1728 (12% of basic), but if we make 12k basic, then respectively PF will be changed.

I hope I have made it clear enough. Still have queries, feel free to ask.

Deepika

Dear Rolly,

Once the basic salary of an employee is decided, it cannot be reduced because all other benefits depend on the basic salary. Other allowances can be changed, but the basic salary cannot be reduced.

If the management talks to the staff/workers and justifies the decision, then it can be implemented; otherwise, you will face a lot of problems like dissatisfaction among the staff/workers, etc.

Regards,
Ajay Sharma

Hi Deepika,

Well, I guess we need to recheck it. I am quite certain that an employer can contribute PF on a 6500 basic even if the basic salary is more than 6500 (say 10k). According to PF rules, it is mandatory to give PF till 6500 basic. After that, the employee has an option to give PF on 6500 or on the actual basic @ 12% or not give it at all. It is totally the employer's prerogative. Still, I will recheck, and please, if possible, do recheck it at your end as well. Many companies give PF on a 6500 basic only, though the actual basic may be more than 6500.

Rolly

Hello Ajay and Deepika,

Thank you for your reply. Let me restructure my query - just tell me one thing: if you are clear about it, if a person is out of PF and ESI because his salary is higher, can we restructure his bifurcation? For example:
Present slabs = 14K basic + 2K HRA
Proposed slabs = 12K basic + 2K HRA + 2K special allowance.

Will this attract any legal implications? Please note that the person is exempt from PF and ESI.

Rolly

Sorry for replying late, but the basic salary cannot be reduced according to the EPF Act; it is considered an offense. However, you can always increase it because all the other components are based on the basic salary. As someone mentioned, the best option is to adjust the special allowance.

Thanks,
Vasavi

Hello Rolly,

Now I understand your problem. Let me clarify... If once PF is applicable in one's salary, during the tenure of the employee, PF must continue. But if the employee is out of PF and ESI, then the basic can be reduced to whatever you want, but it should be more than 6500/-. No legal obligation will attract this thing.

Deepika

Hello Rolly,

Now I understand your problem. Let me clarify. If PF is applicable in one's salary during the tenure of an employee, PF must continue. However, if the employee is out of PF and ESI, then the basic can be reduced as desired, but it should be more than 6500/-. There will be no legal obligation associated with this change.

Deepika

Hey Deepika, one thing more...

As you said, we can reduce basic if he is out of PF and ESI. However, reducing basic also affects his gratuity amount, and gratuity is a statutory obligation directly dependent on basic. Are you sure it is workable?

Another thing - If an employee is covered under PF when he joins, and after subsequent increments, suppose his basic exceeds 6500/-. Can his PF contribution be made at 6500/- basic with mutual consent, or does he have to necessarily contribute @ 12% of the actual basic?

And yes, thanks for your reply.

Rolly

Hi,

Basic salary is the guiding value of an individual's job position in any organization, particularly in organizations with different pay scales. The basic salary will determine the provident fund, gratuity, and any allowances you may claim, as they all relate to the basic salary. Therefore, earned basic salary should not be given up for any reason. If you want anything extra, you should claim it separately.

Peter
LIC

Hi,

I think you want to control the company overheads due to the huge basic pay of your executives. Reducing basic pay will also reduce their HRA, Gratuity, PF, and all other allowances related to basic pay. It may demotivate your employees. One approach you could consider is to not add future increases to basic pay. Alternatively, you could introduce a new allowance that does not impact other overheads such as PF, Gratuity, HRA, etc. Another option is to provide ad hoc increases to your executives annually based on their performance.

Vincent

Rolly,

It's true that the person who is out of PF and ESI, his basic can be modified. However, if you are providing gratuity for your employees, then definitely it will be reduced if you reduce the basic (and moreover we can't change the basic in this case). So, the solution is to not change the basic for old employees. Just increase their salary according to their performance in the coming months and show that increased salary as a special allowance.

For the new joiners, you can change your salary breakup status.

Deepika

Hi Rolly,

As per my information about labor laws related to PF and ESIC, one cannot reduce the basic. Even if you do so and in any government inspection, it comes up, you need to give a lot of explanation for it, as to why you did it and even show proof (hard copy) of this action :)

Regards,
Amit

Hi Rolly,

Most of the companies work out to make their payroll structured in order to avoid any confusion. For example, in my company, 40% of CTC is considered as Basic; HRA = 50% of Basic; Conveyance Allowance = $9600 pa (fixed); Mobile Allowance = $15000 pa (fixed); the rest amount as Special Allowance.

Always keep in mind, the lower the Basic, the lower will be the liabilities for PF, Gratuity, and ESIC calculations from the company's point of view. That's the reason why companies generally keep Basic percentages between 35%-45% so that the company's liability against statutory compliances can be reduced.

Being in HR, we have to think and act keeping in mind all the viewpoints of companies as well as employers. I hope this will help you to restructure your salary structure for the company in the right way!

Regards,
Rachna Sinha
Hyderabad.

Hi Rolly,

Pradipta is right, the only issue you will face here is the PF amount. You cannot reduce the PF amount, which means if you reduce the basic, you will still be paying the same PF amount. PF amount cannot be reduced; in case the basic reduces, you need to maintain the PF amount as it is.

Regards,
Resha

Hi Rolly,

One thing you can experience after this is employee dissatisfaction... Why? Because it will reduce the employer's PF contribution and furthermore, it will reduce the total PF contribution to an account as it is based on the basic salary of an employee. It's better to introduce or restructure your salary structures at the time of salary revisions. Then, you can add such allowances by keeping the base salary the same.

Regards,
Upasna Kaushik

As far as my knowledge goes, you can reduce only to the extent on which you were paying PF percentage earlier. The Act says that PF contribution should not be reduced in any case.

For example, if someone was getting 20K as his basic and you were paying only Rs 780 as his PF (6500*12/100), then you can reduce its basic to 6500. But if you were paying PF on 20K i.e. 20000*12/100, then you cannot reduce the basic.

Regards,
Anu

Well, guys, one more thing that was also discussed a little earlier in the discussion - if we contribute to PF at the rate of 12% and an employee's basic salary crosses 6500/-, can we limit him to a fixed PF contribution of Rs. 780/-? Or do we have to continue to contribute at 12% of the actual basic salary?

Rolly

Dear Rolly,

As I mentioned earlier, there is no PF ceiling limit of 780/-. If an employee's basic salary exceeds 6500/- or is less than or equal to 6500/-, both employer and employee PF contributions will be deducted at 12% of the basic salary.

Deepika

Hi Deepika,

Well, actually, I spoke to a few of my colleagues about this, and according to them, their companies are also only providing PF on Rs. 6,500, even if the basic salary is higher. The same practice is followed in our company. The reason they all mentioned is the Rs. 6,500 ceiling limit, which is not mandatory but is an option provided by PF. You can choose to continue contributing based on the actual basic salary or limit it to Rs. 6,500.

Rolly

Hi Rolly,

As I said earlier, you are right. We can set a ceiling for PF contribution at Rs 780 per month in cases where the salary exceeds Rs 6500.

Regards,
Anu

Dear Rolly,

All legal implications are decided with respect to the Basic Salary of an Employee. At the same time, this part of the salary is pretty relaxing for an employee. Currently, most of the allowances are also taxable. Now, you have to think about which allowances you are going to introduce in the salary break-up.

I'm afraid that you would not be able to achieve the purpose you are trying to achieve because by decreasing the Basic salary of your Employees, they'll become demotivated (the company will shift the burden of Tax from itself to the Employees). Although allowances are satisfactory, they are not like Basic salary.

I would suggest that if you want to restructure the salary structure, apply it to the newcomers, not to the existing ones. This will create a fuss in your org.

Asif Naqvi

Hi,

Just to reply to your query, I don't see any statutory compliances in doing this. However, make sure the total salary should be above 10k; otherwise, you have to register with ESI. I do not think this is the best employee-friendly salary structure.

Thanks,
Manish

Hi Maneesh,

After protracted discussions with forum members, I feel there would be a complication involved as reducing the basic also affects gratuity, which is a statutory requirement.

Rolly

I hope you can't suddenly decrease the basic salary as it will affect the entire benefits of the employees without the prior permission from the statutory authorities.

Rukmane

Hi,

You should not reduce basic pay, but at the same time, during increments, new allowances can be added, and one can keep the basic pay intact. Furthermore, to keep the interests of employees in mind, try adding allowances first where they can avail maximum tax benefits. This will, to a certain extent, prevent them from raising concerns as their actual increment will be more than what they are currently receiving value-wise per month.

YOGESH

Thank you, Yogesh, for your input. Could you please further advise on what kinds of allowances (not reimbursements) can be added to provide tax benefits?

Rolly

We can remodel the salary structure only after the employees' consent; otherwise, we cannot reduce the basic. If we do so unilaterally, it will attract legal action against the management.

Rolly,

You can reduce your basic, and that will attract employees. Also, for that, you can add some allowances like Medical allowance (maximum of 15000 per annum), LTA, Uniform Allowance. This will help you in restructuring because basic is taxable. If you split that taxable basic into non-taxable allowances, your employees will be happy as taxable income is reducing.