A statutory lump-sum benefit an employer pays when an employee leaves after at least five years of continuous service (one year for fixed-term employees, and no minimum on death or disablement).
- Category
- Payroll & Compensation
- Legal status
- Governed by Indian law
- Relevant to
- HR, payroll & finance
- Reading time
- 4 min
What is Gratuity?
Gratuity is a statutory terminal benefit under Chapter V of the Code on Social Security, 2020, which replaced the Payment of Gratuity Act, 1972 from 21 November 2025. An employee of an establishment with 10 or more employees becomes entitled on superannuation, retirement, resignation, or death or disablement, after at least five years of continuous service.
The five-year condition does not apply on death or disablement, and fixed-term employees qualify pro rata after one year of service. The standard formula is: (15 × Last Drawn Wages (Basic + DA) × Completed Years of Service) ÷ 26, where a part year above six months counts as a full year.
Under the Code's definition of wages, if excluded allowances exceed 50% of total pay, the excess is added back to wages. Statutory gratuity is capped at ₹20 lakh.
Key takeaways
- 1Gratuity is a statutory terminal benefit under Chapter V of the Code on Social Security, 2020, which replaced the Payment of Gratuity Act, 1972 from 21 November 2025.
- 2An employee of an establishment with 10 or more employees becomes entitled on superannuation, retirement, resignation, or death or disablement, after at least five years of continuous service.
- 3The five-year condition does not apply on death or disablement, and fixed-term employees qualify pro rata after one year of service.
- 4The standard formula is: (15 × Last Drawn Wages (Basic + DA) × Completed Years of Service) ÷ 26, where a part year above six months counts as a full year.
- 5Under the Code's definition of wages, if excluded allowances exceed 50% of total pay, the excess is added back to wages.
Why Gratuity matters
A significant long-term financial entitlement for employees and a statutory liability that employers usually fund through a gratuity trust or a group gratuity insurance policy.
How Gratuity works in practice
- 1
Define the rule
Write down how Gratuity is calculated or applied in your offer letters and compensation policy, including the components it is based on.
- 2
Configure it once
Set Gratuity in the salary structure so every employee is processed with the same formula instead of manual spreadsheets.
- 3
Run & validate
Process the monthly payroll, then review variances, arrears and exceptions linked to Gratuity before approving the run.
- 4
Report & reconcile
Match payslips, bank transfers and statutory challans so Gratuity is traceable during audits.
Work out the numbers with the free gratuity calculator.
Real-world example
An employee leaves after 8 years of continuous service with last drawn Basic + DA of ₹52,000 a month. Their statutory gratuity is (15 × 52,000 × 8) ÷ 26 = ₹2,40,000, fully tax-exempt because it is within the ₹20 lakh limit.
Indian statutory reference
Code on Social Security, 2020, sections 53 to 58 (in force from 21 November 2025, replacing the Payment of Gratuity Act, 1972); ceiling ₹20 lakh. Tax: for amounts received from 1 April 2026, section 19(1) of the Income-tax Act, 2025 (Table, Sl. No. 5 and 6) exempts gratuity up to the notified limit of ₹20 lakh across all employers in a lifetime (earlier section 10(10) of the Income Tax Act, 1961). Gratuity of Central and State Government employees is fully exempt.
Rates, limits and state rules change often. Confirm against the latest notification or with your compliance advisor.
Best practices and common mistakes
Best practices
- Document how Gratuity is calculated in the compensation policy and share it with employees.
- Keep salary components mapped to the correct statutory heads (PF, ESIC, PT, TDS).
- Reconcile payroll registers against bank and challan data every month.
- Review structures after every law or wage-ceiling revision.
- Retain payroll records for the period prescribed by law.
Common mistakes
- Treating Gratuity inconsistently across employee groups or locations.
- Calculating on the wrong wage base, which flows into PF, gratuity and bonus errors.
- Changing salary components mid-year without updating tax projections.
- Relying on manual spreadsheets that break during mid-month joiners and exits.
Managing Gratuity in SleetHR
SleetHR applies Gratuity through configurable salary structures, auto-calculates statutory deductions, and generates payslips, registers and challans from the same source of truth.