Who Pays Gratuity When a Business Shuts Down: Contractor or Principal Employer?

Dear HR Fraternity,

Greetings of the day. I have a query regarding the liability of the principal employer towards Gratuity. A coal mining company is going to wind up its business due to the cancellation of a lease. There are about 500 contractual workers who have legitimately qualified for Gratuity.

Liability for Gratuity Payment

My question is whether the contractor or principal employer is liable for the payment of Gratuity. In case the contractor denies to pay the Gratuity, should the principal employer make the payment?

Regards,
Raj Kaurav

Employee-Employer Relationship in Contract Work

Between the contract workmen and the employer, there does not exist any employee-employer relationship. Therefore, only the contractor who has appointed these workers and who pays them wages is liable to pay gratuity to the contract workers. However, if the same employees have been engaged with the same principal employer for years, and if the contract has been found to be a sham contract, then the principal employer cannot disown his responsibility for payment of gratuity.

Regards,
Madhu.T.K

This is an interesting grey area. I have seen this before and do not have a concrete answer.

Basic Jurisprudence of Labor Laws in India

First, the basic jurisprudence of labor laws in India is that the Principal Employer is liable for ensuring payment of wages and statutory dues of the contract workers. This has been consistently followed by the courts.

Definition of Employee in the Payment of Gratuity Act

On the other hand, the definition of an employee in the Payment of Gratuity Act does not specifically cover contract labor. Nor is there any specific mention of gratuity in the contract labor act. By that definition per se, the principal employer is not liable for the payment of gratuity to the contract labor. However, there have been court cases that have decided (at the Supreme Court Level) that the amount, though payable by the contractor, can be recovered instead from the principal employer, who can, if he wishes, recover it as a debt from the contractor.

That case was about loading and unloading stevedoring labor in the port of Madras and held against a large fertilizer company (as far as I recall) but I don't have the citation. This was a case where the laborers were not in permanent employment for this particular client or even working every day, but had work for most of the months. In your case, they were working permanently and exclusively for you.

Legal Implications and Management Decision

Going by the direct wording of the law, you can refuse to pay, saying it's not stated in the act. However, it is likely that on a complaint, the Labor Commissioner (or authority under the gratuity act) will raise a notice on you, and then take the matter to court. Just the cost of fighting the case (the government has a free legal team effectively) may be higher than the cost of paying the gratuity and in case you lose, you pay along with the interest and penalty, which would be huge.

So, it's a call the management needs to take. It is a good idea to speak to a reputed labor lawyer and take an opinion based on the full facts of the case, as the implications either way are pretty high.

Ok, I managed to find the judgment (it's very long and complex).

The Management Of Cruickshank & ... vs The Appellate Authority on 20 November, 2006

Key Section of the Judgment

And this section at the end is probably the crux of what you wish to know:

But, on a conjoint reading of Section 2(vi)(d) and sub-clause (6) of Section 2(vi) and by virtue of legal/statutory fiction created in sub-clause (6) of Section 2(vi) exempting the benefits conferred under clause (d) within the purview of gratuity that is excluded from the meaning of wages under sub-clause (6) and the gratuity claimed by the claimants herein being a welfare benefit created and payable by operation of law under the provisions of the Payment of Gratuity Act which are included under clause (d) of Section 2(vi) of the Payment of Wages Act within the meaning of wages payable to the contract laborers, it would be the basic responsibility of the petitioner to make payment of gratuity to the claimants in full or in part as per Section 21(4) of the Contract Labor Act, of course, without prejudice to the right of the petitioner to recover the same from the third respondent, contractor, even though the initial responsibility to make such payment of gratuity lies with the third respondent, contractor, as the welfare legislations such as...

In the above reading, the petitioner is the principal employer and the third respondent is the contractor.

Summary of Responsibility

So it basically says:

It would be the basic responsibility of the Principal Employer to make payment of gratuity to the contract workers in full or in part as per Section 21(4) of the Contract Labor Act, of course, without prejudice to the right of the Principal Employer to recover the same from the contractor.

Hope this helps.

But please read the full judgment and I suggest you speak to a good lawyer with massive labor law experience.

In a case with facts similar to those stated by the individual who started this thread, the Honourable Madras High Court directed the principal employer to pay the gratuity and recover the same from the contractor.

Regards