gratuity is a lump-sum payment from an employer to an employee as a reward for long-term service. the employer funds it entirely. the employee does not contribute any money to it.
the new labour codes changed the rules from november 2025. fixed-term employees can now get gratuity after just one year of service on a pro-rata basis. permanent employees still need five years of continuous service. the tax-free limit under section 10(10) is ₹20 lakh for private sector employees. gratuity is a statutory benefit under the payment of gratuity act, 1972. it applies to establishments with 10 or more employees. the social security code, 2020 replaced the older act and modernised the framework for gratuity payments from november 21, 2025.
who is eligible for gratuity
eligibility rules changed significantly in november 2025.
for permanent employees. five years of continuous service with the same employer is required. the five-year rule does not apply in cases of death or permanent disablement.
for fixed-term employees. this is the big change. fixed-term employees are now eligible for gratuity after one year of service. the payment is on a pro-rata basis, meaning the employee receives gratuity proportional to the period worked. this rule applies only to employees who joined on or after the new labour codes were implemented.
continuous service means at least 240 days worked in a year for a typical work schedule.
how gratuity is calculated
the calculation uses a standard formula.
covered under the act. gratuity = (15/26) × last drawn wages × completed years of service.
- last drawn wages. includes basic pay and dearness allowance. under the new wage definition, basic pay + da must be at least 50% of total remuneration. if allowances exceed that, the excess is added back to basic pay, raising the gratuity base.
- 15/26. 15 days wages for each year of service. a month is treated as 26 working days.
- years of service. completed years are counted. part of a year exceeding six months is rounded up to the next full year.
| employee type | formula | special rule |
|---|---|---|
| permanent (covered) | (15/26) × last drawn wages × years of service | part-year >6 months rounded up |
| fixed-term | pro-rata based on actual service | eligible after 1 year |
| not covered by act | (15/30) × wages × years of service | part-year ignored |
example. last drawn wages ₹50,000. 10 years and 7 months of service. service is rounded to 11 years. gratuity = ₹50,000 × 15/26 × 11 = ₹3,17,308.
tax on gratuity
taxation depends on the employee category.
government employees. gratuity is fully exempt from income tax.
private sector employees. the lowest of the following is exempt under section 10(10):
- actual gratuity received
- ₹20 lakh (lifetime limit)
- eligible gratuity calculated by formula
any amount above the exemption is taxed as salary income at the applicable slab rate.
when is gratuity paid
gratuity becomes payable upon:
- retirement or superannuation
- resignation (after completing the required service)
- death or disablement due to accident or disease
- termination of contract for fixed-term employees
employers must pay gratuity within 30 days of it becoming payable. delay attracts simple interest.
frequently asked questions
1. can gratuity be forfeited?
yes, but only in specific situations. an employer can withhold gratuity fully or partially if the employee’s service is terminated for wilful damage to property, riotous conduct, or an offence involving moral turpitude. routine resignation or performance issues do not permit forfeiture.
2. what is the gratuity ceiling for private sector employees?
the tax-free limit is ₹20 lakh. any amount above this is taxable.
3. is gratuity part of ctc?
yes. gratuity is almost always included in the cost-to-company, though there is no strict legal mandate. it represents a financial liability the employer must provision for.
4. can fixed-term employees get gratuity?
yes, under the new rules. fixed-term employees are eligible after one year of service on a pro-rata basis.
5. how does the new wage definition affect gratuity?
the new wage definition requires basic pay + dearness allowance to be at least 50% of total remuneration. if allowances exceed 50%, the excess is added to basic pay, increasing the gratuity payout.
