Gratuity Calculation Confusion: How to Set Basic and DA for Fair Employee Benefits?

Understanding Gratuity Calculation for DA and Basic

I would like to know what amount a company can fix on DA and Basic for the calculation of gratuity. My company is in the manufacturing sector, and there are a few employees who have been with the company for 5 years. For them, I need to calculate gratuity, but I am not sure what the minimum amount on Basic and DA should be set for calculation.

For example, if a person is earning 2L/month, what amount can we set on Basic and DA for calculation so that both parties can enjoy benefits? Can a company set a specific amount on Basic and DA at their discretion, or what is the procedure I have to follow? I know how to calculate gratuity, but I don't know the limit (the gratuity limit is currently 20L).

Kindly help me with this, please.

Dear friend, please go through the similar queries in these links:

- [CiteHR - Gratuity Calculation based on Last Basic Salary and DA](https://www.citehr.com/593157-gratuity-calculated-last-earned-basic-da-last.html)
- [CiteHR - Gratuity Calculator as per Gratuity Act](https://www.citehr.com/78804-gratuity-calculator-gratuity-act.html)

If your employees are covered under the Gratuity Act, the rule governing this aspect is:

1) The gratuity amount depends upon the tenure (number of years) of continuous service and 2) the last drawn salary. It is calculated according to this formula: Last drawn salary (basic salary plus dearness allowance) X 15/26 X number of completed years of service. An employer can, however, give higher gratuity than the amount under the prescribed formula.

"Quote" Sec. "[8] [(r) "superannuation", in relation to an employee, means the attainment by the employee of such age as is fixed in the contract or conditions of service at the age on the attainment of which the employee shall vacate the employment;] (s) "wages" means all emoluments which are earned by an employee while on duty or on leave in accordance with the terms and conditions of his employment and which are paid or are payable to him in cash and include dearness allowance but do not include any bonus, commission, house rent allowance, overtime wages, and any other allowance.

Payment of Gratuity Act, 1972

Section: 3 Controlling authority The appropriate Government may, by notification, appoint any officer to be a controlling authority, who shall be responsible for the administration of this Act and different controlling authorities may be appointed for different areas.

Section: 4 Payment of gratuity

(1) Gratuity shall be payable to an employee on the termination of his employment after he has rendered continuous service for not less than five years, -

(a) on his superannuation, or
(b) on his retirement or resignation, or
(c) on his death or disablement due to accident or disease: Provided that the completion of continuous service of five years shall not be necessary where the termination of the employment of any employee is due to death or disablement: Provided further that in the case of death of the employee, gratuity payable to him shall be paid to his nominee or, if no nomination has been made, to his heirs, and where any such nominees or heirs is a minor, the share of such minor shall be deposited with the controlling authority who shall invest the same for the benefit of such minor in such bank or other financial institution, as may be prescribed, until such minor attains majority.]

Explanation: For the purposes of this section, disablement means such disablement as incapacitates an employee for the work which he was capable of performing before the accident or disease resulting in such disablement.

(2) For every completed year of service or part thereof in excess of six months, the employer shall pay gratuity to an employee at the rate of fifteen days wages based on the rate of wages last drawn by the employee concerned: Provided that in the case of a piece-rated employee, daily wages shall be computed on the average of the total wages received by him for a period of three months immediately preceding the termination of his employment, and, for this purpose, the wages paid for any overtime work shall not be taken into account.: Provided further that in the case of [an employee who is employed in a seasonal establishment and who is not so employed throughout the year], the employer shall pay the gratuity at the rate of seven days wages for each season.

Is there any upper limit for gratuity?

Gratuity is a benefit given by the employer to the employee. A recently approved amendment by the Centre has increased the maximum limit of gratuity, to be exempted from tax, to Rs. 20 Lakhs from the then existing ceiling of Rs. 10 Lakhs. This is applicable to both private sector and public sector employees. Calculations for the exemption of gratuity under the Income Tax Act are covered under section 10(10). As per current law, gratuity received by a government employee is fully exempt from tax. The maximum amount they can receive is Rs. 20 lakh as per amendments made following the 7th Pay Commission recommendations.

What is the maximum amount payable under the Gratuity Act?

At present, the maximum ceiling for the purpose as per the Act is Rs. 20 lakhs. Even then, employees may receive gratuity at a higher rate than prescribed under the Act. This is supported by Sec. 4(5) of the Act, which protects gratuity if it is at a rate better than that provided under the Act. Gratuity is to be calculated on the 'Last Pay drawn' on Basic + DA (and please see what are included and what are not included as above). The Act doesn't set any "Upper Limit" for 'Last drawn salary'. Your query gives me a suspicion that in order to limit the gratuity, you are trying to 'FIX'/modify the Basic and/or DA now, which is irregular and against the law. Regret if I am wrong. Maybe you haven't done this 'fixing' when he/she joined your firm, presumably paid a consolidated salary which you are now trying to regularize formally.

Thank you, Kumar, for taking the time to reply to the query above. I have already visited that site, but unfortunately, I couldn't find the answer I am seeking. Hence, I have decided to post a new topic. I have grasped the process of calculating gratuity and related aspects. However, my inquiry pertains to the Gratuity Act. Is there a fixed amount set for the basic and DA, or can the company determine these figures?

For instance, if an individual's last drawn CTC is 1L, can my company establish the Basic at 20,000 and DA at 20,000, allocating the remainder as other allowances? Or must I adhere to the formula where the basic is 40 to 50% of the CTC, and the same principle applies to DA?

The scenario outlined above encapsulates my query. Thank you and regards, Shankar.

"Last drawn CTC is 1L."

The concept of CTC does not arise. The formula for gratuity is clear: it revolves around basic pay, DA, and years of service. Has your company not fixed Basic Pay and DA as part of the salary structure? Then there should be no issue about gratuity calculation. The last drawn salary will be taken into account.

Dear Mr. Shankar, as suggested by the learned member, the gratuity is calculated based on the prescribed formula and the last monthly wages (Basic + DA) drawn. In your example, you have not mentioned whether the CTC structure is monthly or annual. You can’t fix separate Basic and DA for gratuity. It will be based on the actual Basic + DA which the individual receives in their monthly salary.

Assuming the above-mentioned structure is monthly, then the gratuity will be calculated as follows:

(20000 + 20000) * 15/26 * Number of continuous service years completed

The service should be calculated in years only. If it is more than 6 months, then round off to the next year, like 5 years 7 months will be counted as 6 years.

For more details, please share the actual Basic + DA and the period of service. Hope the above will serve your purpose.

Hi Mr. Pan Singh Dangwal,

The above-mentioned 1L is an example salary for one month (consider it as the last drawn salary). We have not defined any structure yet because the company's strength is very low. So, for gratuity calculation, should I go with (40% to 50% basic + 40% to 50% DA) * 15/26, or can I use (xxx basic + xxx DA) * 15/26, where the XXX amount is defined by the company?

Thanks and regards,
Shankar.

Dear Shankar, please first share the exact employee strength from the last 12 months. Broadly, the act is applicable to:

“every shop or establishment within the meaning of any law in which ten or more persons are employed, or were employed, on any day of the preceding twelve months.”

The case can be complicated for your organization because you have been paying full salary without any breakup. In such a case, the whole salary will be treated as Basic + DA, and all statutory benefits (Bonus, EL, Gratuity, compensation, etc.) need to be calculated on the whole salary.

However, you have taken the call well in time. Since the employees are still working and have not left to date, you can now draft a proper salary structure and issue a CTC letter so that the same will be applicable for all future references. Please find attached a CTC Format. This will help you to frame the CTC Structure, which you can modify as per your requirement.

The same salary structure can be applied for PF-ESI as well (if covered under the Acts). Hope the above will meet your requirement.

I wish to drive home a point here. It's better for any employer to fix basic, DA, HRA, and other allowances beforehand at the time of offer, appointment, or joining in an establishment. Even when there is a CTC pattern followed in an organization, in order to avoid litigation and unrest, every detail should be provided.

The reason I'm pressing for this is due to the possibility that some establishments keep them highly guarded or do not spell out the bifurcation to the employees, and only the take-home salary is known. This might open up the possibility of litigation. If I were an employee, I could raise a dispute stating that my take-home or gross salary consisted of Basic & DA only, and I should be paid gratuity based on this. This could be justified as I was not given a breakdown before or during my employment, but only when I quit, this information is being revealed, making it arbitrary.

Furthermore, there should be a predetermined formula for DA and HRA, at least, while there need not be any formula for Basic and/or other allowances. It would be reasonable for this formula to be more or less in line with what other establishments in the same sector, trade, business, or services are following.

A few guidelines were discussed by members in earlier posts on this issue, which can be consulted to establish proper guidelines.

Dear Mr. Kumar, as of now, the company has not established any basic salary or DA. We have been paying what was negotiated during the interview, taking into account PF and ESI (ESI if eligible).

Currently, we have employees who have been with the company for 5+ years and are still continuing. To facilitate the calculation of gratuity, we are introducing a salary breakup. However, we have encountered an issue with gratuity calculation—whether we should include gratuity as part of the salary or calculate it separately.

Thank you and best regards,
Shankar

Basic and DA should not be less than the minimum wages prescribed for the scheduled employment for the calculation of gratuity.

Better late than never. And nothing is lost since even now you have no obligation to reveal the bifurcation unless the need arises when anyone has to be settled on separation. If you would indicate the wage levels and what all should form part, we could suggest a reasonable bifurcation suitable for your entity to be in line with your contemporaries.