Navigating the New Wage Code for Startups: Is a Basic Salary Over 50% of Gross Illegal?

Dear Members, hope everyone is in excellent health. My close friend has started a company that is a startup and is approximately 3 months old. My friend, being a thorough professional, follows every rule to the line and has asked me for some HR advice in light of the new wage code 2019.

Basic Salary Requirement Under the New Wage Code

1) As per the new Act, it will be necessary to keep Basic at 50% of the total salary. In this event, I had suggested capping the PF contribution to Rs 15,000 of Basic. However, with rapid changes in policies, is this the right approach to take?

Exemption from the Payment of Bonus Act

2) As of now, I understand that startups are exempt from the Payment of Bonus Act for the first 5 years. If correct, I had suggested she keep the Basic salary of all her employees, where possible, above Rs 21,000. However, the new wage code is silent on the issue when the Basic salary is above 50%. In my friend's case, if the Basic salary is kept above Rs 21,000, then the basic salary is more than 50% of the total gross salary of the majority of employees. Is this illegal?

Eligibility for PF Based on Employee Count

3) I also want to understand the concept of the magic number of 20 employees or more to be eligible for PF. If hypothetically there are 30 employees in a company, with 19 employees on the company's payroll and 11 shown as contract employees of a third party or independent consultants, is there any contravention of any law in such a case? Further, will the PF Act be applicable as the employees are in two different classes, one being full-time and the other being contractual or consultants? The consultants will be paid a lump sum amount with no bifurcation.

Kindly advise.

Dear Ms. Anuradha,

Your proposition is correct in view of the definition of the term "wages" under section 2(y) of the Code on Wages, 2019. Simply put, this definition includes basic pay, dearness allowance, and retaining allowance, and excludes all other allowances as long as their sum total remains at 50% of the monthly gross amount payable as per the contract of employment.

Eligibility of Bonus Under the Code on Wages, 2019

As per section 26(1) of the Code on Wages, 2019, the threshold wages per month for eligibility of bonus is to be determined by the appropriate Government concerned for the industrial establishment. I have no idea whether the Central Government or any State Government has issued any notification so far in this regard. The definition of "wages" under section 2(88) of the Code on Social Security, 2020 is exactly similar to that of the Code on Wages, 2019. Therefore, it is not practically possible to restructure wages according to different threshold limits, if any, fixed for applicability as the purpose behind these statutory benefits is different.

Understanding Statutory Number Thresholds

The statutory number threshold under any labor law is not magical but based only on the necessity of regulation and convenience of accounting. To get clarity, you may refer to the definitions of the term "employee" occurring in the four Codes comparatively. In my opinion, the term "consultant," which generally refers to those who offer their services on a contract-for-service basis, is a misnomer under the labor laws. Employee covers regular, part-time, fixed-term, casual, and outsourced employees. With the definitions of Gig Worker and Platform worker, a tangent deviation of outlook is required from the traditional employer-employee relationship. If the compensation is a lump sum, you are going to calculate the benefits on the total only.

Clarification on Penal Provisions and Employee Thresholds

Glad to see your reply to my query. However, the response has further convoluted the opinion I plan to dispense in the true spirit of friendship.

I was able to understand parts 1 and 2 of your reply. Regarding part 3, I just need clarification on whether, in the current scenario, exercising the hypothetical preposition by a company would attract penal provisions.

Based on my limited understanding of the wording of the respective acts, companies with up to 20 employees are exempt from this act. Furthermore, in a situation where two different classes of workers are involved, one directly associated with the company and the other indirectly associated with an establishment, can that establishment be exempt from the respective acts, specifically EPF and CLRA, until the threshold of 20 employees or contract personnel is breached?

Your advice on this matter would be greatly appreciated. Best wishes, and it is always a pleasure to receive your noble and accurate advice.

Regards, Anuradha

Understanding the New Wage Code

In the definition of wages under the new code, it is not explicitly mentioned that the Basic should be 50% of the monthly gross. Instead, it is stated that for calculating wages under this clause, if payments made under the exclusion list exceed 50% of all remuneration calculated under the code, the excess amount over 50% will be added back to wages. Therefore, in the new wage structure, it should be from "all remuneration calculated under the code," i.e., CTC, of which 50% will be allowances and 50% will be wages (Basic & DA). Components like PF, LTA/LTC, Bonus, etc., will be included in the other allowances, and these should be subtracted from the other allowances while determining the monthly gross salary. There is no restriction on setting a higher basic as per the code.

Clarifications on Points

Point no. 2 is perfect.

Point no. 3 - As per the definition of an employee under the Social Security Code, under proviso 2, it is clearly mentioned how to calculate the number of employees as per PF or ESIC. In my opinion, the organization will be covered under PF.

New Point: Coverage under CLRA

The coverage limit has been enhanced to 50 or more as per OSH Code 2020 Chapter XI SEC-45.

S K Bandyopadhyay (Howrah, WB)

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Thank you, Mr. Bandyopadhyay. However, there is a difference in understanding here. I am aware of the limit of 20 employees for EPF & ESI. But the objective here is different. Please look at it from a startup point of view. A startup has limited resources, a high attrition rate, and spikes or drips in terms of people working in the startup.

Example of Startup Employee Scenario

Consider this example: Now, if Mr. A joins a startup at, say, a monthly basic salary of Rs 25,000. Mr. A is approximately 26 years old and not worried about retirement as of now but is more interested in what his net take-home will be. If the startup ends up deducting even at Rs 15,000—12% basic—his basic salary is reduced (before any tax) due to PF deductions by approximately Rs 3,700 (Employer Employee contribution) or so per month.

At the same time, the startup is scaling up but may not grow in the next 18 months to have more than 40 employees. So it keeps—let's assume 18 employees on its roll and keeps the remaining 22 people who are engaged in various tasks as either contract employees or consultants. All this is done so that every person associated with the startup has more net salary or fees every month.

Questions on PF Enrollment and Legal Compliance

Therefore, now in order to increase the take-home salary of Mr. A, kindly suggest that if in my first post Pt.3 is exercised, is it a contravention of any act? Secondly, if there are employees with a basic salary of more than Rs 15,000 per month and a gross salary of more than Rs 21,000 per month, does the company still have to enroll with PF? The new code has no reference to that.

Much appreciated for your future and past responses.

Thanks, Anuradha

Dear Anuradha, you have two queries—one regarding take-home salary and the other concerning coverage. With the new code, it is evident that there will be a reduction in the take-home salary per month. This is because, as per the code in the new remuneration structure, the Basic component will actually be more than 50% of the monthly gross. Hence, there is no room to increase the take-home pay after complying with the PF Act.

Regarding coverage

I am referring to Section 2 (26) of the Social Security Code, specifically the definition of an Employee. An Employee includes any person engaged either directly or through a contractor. The second proviso of the definition guides on how to count the number of employees for coverage purposes. Employees whose wages exceed the ceiling notified by the Government should also be taken into account.

Therefore, including contractual or consultant workers, the total number of employees will exceed 20 and will fall under PF coverage. As a startup company, if the company recruits experienced candidates who are covered under PF, their membership cannot be discontinued with the excuse of the organization not being covered under PF.

I trust I have clarified your queries. For further clarification, you may call me.

Thanks & Regards,

S K Bandyopadhyay (Howrah, WB)

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Dear Ms. Anuradha,

First of all, I suggest not to think or plan based on the proposed COW, 2019, as it is not implemented yet. Plan your policies based on existing rules and laws. Please note my observations:

1. Being a startup, keeping a higher Basic is a good idea to remain exempt from EPF. However, as per last year's PF rule (notification), PF is applicable on most components (except HRA). So, I advise keeping the Basic a little lower and maintaining the total salary (excluding HRA) above 15k. This way, you can show that the initial PF wages are more than 15k, hence the employee is not covered under EPF. In such cases, please check with a consultant as you may be required to obtain employee consent through some form or undertaking. Moreover, if employee strength is 20 or more, you have to take EPF Registration. Since all are excluded employees (as you proposed/planned), there is no need to make any PF deduction.

2. Startups are exempt from Bonus for the initial 5 years if the establishment doesn't have allocable surplus or is having losses for those years. If the establishment is making a profit (after adjustment of previous year's loss/es), then Bonus is required to be paid as applicable. Moreover, the Rs. 21,000 capping is applicable for Gross Wages, not for Basic Wages. This means if any employee's gross wages are more than 21k, then he/she can be treated as a Bonus excluded Employee. Please check these points with a Labour Lawyer or Consultant.

3. While calculating the number of employees for PF Registration, generally the PF authorities count the Off Roll employees as part of regular employees. It can be challenged by PF officials that to avoid PF Registration, you have engaged some Off Roll employees. In the case of consultants, you have to issue a proper Service Agreement, which must be renewed from time to time as per work requirements. Moreover, such consultants should not be provided emoluments given to On Roll Employees. Otherwise, it will be assumed you have hired them as consultants just to avoid PF liabilities. Moreover, TDS is deducted from such consultants' fees/remuneration.

Lastly, I advise keeping the Basic on the lower side (gross can be drafted in a way to exclude PF-Bonus liability) because you have more than 10 On Roll Employees to which the POG Act, 1972 is applicable. The higher Basic will increase Gratuity Cost (which occurs after 5 years of continuous service).

Regarding hiring the remaining 22 people, please note not to hire 20 or more through a single agency, otherwise, the CL Act, 1970 will be applicable (please check in some states it is now 50).

I can't give any Section Reference; the above points are based on my experience. Hence, I insist on taking one-time consultant services to frame proper policies/patterns. This will help you avoid future burdens from statutory obligations.

Seniors can provide more inputs on the matter.