Gratuity Meaning, Definition, Eligibility & Formula

Gratuity is a lump sum of money given by the employers to employees for their meritorious services rendered to the company. Usually, it is a percentage of the employee’s total salary for the entire period of their service. It can be availed by the employee after serving an organization for 5 consecutive years, when they retire or exit the company.

Ultimately, it serves as a gesture of gratitude for an employee’s long-standing contribution to the organization.

Gratuity Eligibility

Notably, in India, the Payment of Gratuity Act, 1972 mandates gratuity as a type of retirement benefit. According to this Act, employees become eligible for it after completing five years of service, except in cases of death or disability.

Income Tax Act, 1961, treats gratuity received by an employee during their service as taxable income. However, if it is received upon retirement, resignation, death, or in specific other cases, it may qualify for tax exemption under Section 10(10) of the Act.

Moreover, this amount is paid at the rate of 15 days’ wages for each completed year of service. Additionally, it is paid for any part of the year exceeding 6 months. This means if an employee works for more than 6 months in a year, that year is considered a full year for gratuity calculation.

Gratuity calculation formula

Gratuity calculation formula = Salary last drawn * Number of completed years of service * 15 / 26

Where,

Salary last drawn = Basic Salary + Dearness Allowance

Number of completed years of service = Total number of years for which service was provided

And,

15 Days = Number of days the employee has worked

26 Days = Total number of working days in a month

Alternatively, calculate it for employees not covered under the Act by using this formula:

The calculation formula:
Salary last drawn × Number of completed years of service × 15 / 30

Gratuity in USA

People in the USA often call it tipping. Specifically, it is a sum of money customarily given by a customer to certain service sector workers. For example, those in the hospitality industry, for the service they have performed, in addition to the basic price of the service.

Frequently Asked Questions

Q1.	What is gratuity meaning?
Ans.	Essentially, it is a monetary benefit given to an employee upon leaving an organization after completing at least five years of service.
Q2.	Can gratuity be forfeited?
Ans.	If an employee is terminated due to misconduct, willful negligence, or an act that causes damage or loss to the employer’s property. Then, the employer may forfeit their gratuity up to the extent of the loss caused.
Q3.	What is the process for withdrawing gratuity?
Ans.	The withdrawal process begins when an employee submits a request by filling out and submitting Form I to the employer. Further, if the employee is unable to do so, their nominee or legal heir can apply on their behalf. Therefore, once the application is received, the employer is responsible for verifying the claim, acknowledging receipt, and calculating the gratuity amount due. Hence, complete this process promptly to avoid any delays.
Q4.	Can gratuity be received before five years of service?
Ans.	No. According to the gratuity payment rules, employees are eligible for this only after completing 5 years of continuous service with the company.
Q5.	How does gratuity payment automation work?
Ans.	For its payment automation, companies use HRMS software to automate their calculations, maintain records, send reminders, and process payments efficiently.
Q6.	What are the latest gratuity rules in India?
Ans.	According to its latest rules in India, employers calculate the amount as 15 days’ wages for each completed year of service, with a maximum cap of Rs. 20 lakh gratuity for private employees. Furthermore, gratuity up to this limit is exempt from income tax. Also, the government has increased the limit for its employees to Rs 25 lakh.
Q7.	Is there gratuity in the USA?
Ans.	In the United States, people commonly refer to this term as severance pay. Federal law does not mandate it, unlike in some other countries.