Gratuity and its treatment

What is Gratuity?

Gratuity is a payment made by the employer to an employee in appreciation of the past services rendered by the employee.

It can either be received by:

  • the employee himself at the time of his retirement, or
  • the legal heir on the event of the death of the employee.
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Taxability of Gratuity

Gratuity received by an employee on his retirement is taxable under the head “Salary”.

Whereas gratuity received by the legal heir of the deceased employee shall be taxable under the head “Income from other source”.

How much is gratuity taxable?

According to Section 10(10), gratuity is exempt up to a certain limit. So if we take the case of gratuity received by employee, salary would include only that part (for calculating tax) which is not exempt under Section 10(10).

Fully ExemptMinimum of following 3 limits:
1. Actual gratuity received, or
2. 15 days salary for every completed year, or part thereof
exceeding six months 7 days salary for each season(in case of seasonal employees), or
3. Rs.10,00,000

Minimum of the following 3 limits:
1. Actual gratuity received
2. Half months average salary of each completed year of service.
3. Rs.10,00,000

However as per Interim Budget 2019, the limit of Rs.10,00,000 was raised to Rs.20,00,000.

Meaning of Salary(as per limits shown above)

For Employees covered under Gratuity Act:

  • Basic salary plus dearness allowance
  • last drawn salary. Average salary in case of piece rates employees.
  • Number of days to be taken as 26.

Any other employee

  • Basic salary plus dearness allowance to the extent the terms of employment provides.
  • Average salary of last 10 months preceding the month in which gratuity is received
  • Only completed year of service is to be taken.

E-book notes you should not miss to read!

Important points you should remember

  1. Where an employee had received gratuity in any earlier year and had claimed exemptions under Section10(10). Then he will still be entitled to this exemption but the limit which is at present of Rs.10,00,000 shall be reduced by amount of exemption claimed. There will be no change in other two limits.
  2. The word ‘Completed service’ here mean an employee’s total service under different employers other than the one from whose service he retired.
  3. Any gratuity paid to an employee, while he continues to remain in service with the same employer is taxable under head Salary.
  4. The termination of employment would cover an employee who has resigned from service. (As per the clarification given by the CBDT vide its instruction in F. No. 194/0/73-IT, dated 19.06.1973.

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