Income Tax

Income Tax Exemption on Gratuity

Income Tax Exemption on Gratuity

Income Tax is a form of Direct Tax levied by the Indian Government on the very source of income generated in a financial year either by individuals or businesses. However, this form of tax varies as per the income slab of an individual or business. There are other factors that affect the tax share on an income such as age, mode of income, industry, type of company, etc as discussed in Income Tax Exemption on Gratuity.

What is Gratuity?

Gratuity refers to that pecuniary benefit given to an employee but its employer at the time of his superannuation/retirement/resignation. It is a token of appreciation that an employer gives to the employee on the successful completion of five years of service. Generally, an average employee works for around 30-35 years in his professional timeframe. This sort of extended period of services rendered by an employee to the Company demands some acknowledgement or credit at the time of retirement/superannuation. Gratuity denotes that appreciation towards the employee for contributing an age for the growth and benefit of the company. This sum of Gratuity received by an employee is payable under the Payment of Gratuity Act, 1972.

In the past times, gratuity was not a mandatory act but a voluntary act done entirely at the discretion of the employer as a token of appreciation for the employee who spent a major part of his professional life in the service of the employer. However, the Payment of Gratuity Act of 1972 brought a major change in the practices when certain companies were brought under the mandatory obligation to pay the gratuity sum to their employee if he/she rendered five years of continuous service. Gratuity does not need to be a part of the monthly salary but to be paid when either the employee attains superannuation, resigns from the job, or dies/becomes disabled due to disease.

Eligibility for Gratuity

Gratuity is the sum paid to an employee on fulfilling the following criteria:-

  • An individual must be an employee receiving a salary from the company/organization. An trainee/beginner is not eligible to be granted with reward.
  • To retain gratuity, an Individual must have contributed continuous services for at least 5 years.
  • Gratuity is granted either on the resignation/death of the employee, or post the completion of the required period.

Gratuity and Income Tax

If gratuity is being received by the employee during his service, then it is entirely taxable as it is considered to be his income under the Income Tax Act 1961. However, if reward is received on death, resignation, retirement, or other cases, then exemption from tax is granted to the employee in accordance with section 10(10) of the Act.

The gratuity amount received by an employee shall be considered as income of the employee (under the “salary” head). However, in the event of the death of the employee, the nominee (or legal heir in case) shall be entitled to the gratuity sum. In furtherance of such allotment, the sum shall then be treated as the nominee’s income under the category of “Income from other sources”.

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Tax Exemption on Gratuity

Section 10(10) of the Income Tax Act, 1961 provides an exemption from taxation on gratuity but only up to a certain limit as detailed under the act.

Exemptions for government sector employees

Employees working in the government sector have been entirely exempted from the taxes for gratuity they receive upon their termination, retirement, or superannuation which is provided by the government itself. This policy is applicable to all sorts of employees of both the central government, and state government such as members of civil services, the defense sector, and all other local authorities. 

Exemptions for private sector employees

Employees working in the private sector have been exempted from the taxes for reward they receive upon their termination, retirement, or superannuation which is provided by their employer but the exemption depends on whether the employees are covered under the act. 

Employees covered under the Gratuity Act, 1972

Every employer of factories, mines, oil fields, etc. who has at least 10 employees on any day during the preceding year is covered under this Act. Though once covered under the act, provisions of the act remain applicable even if the number of employees falls below 10. 

Least of the following is exempted from the tax:-

  • Last salary (Basic + DA) × number of years of employment × 15/26
  • INR 20 Lakhs (as amended)
  • Gratuity received
example

Employees not covered under the Gratuity Act, 1972

Certain employers who are not covered under the Gratuity Act make the payment of reward to its employees voluntarily. Gratuity payable to the employee is calculated based on a half-month salary for every completed year.

Least of the following is exempted from the tax:-

  • Last 10 month’s average salary (Basic + DA) × number of years of employment × 1/2;
  • Rs. 10 lakhs;
  • Gratuity actually received
example1

Amendment and its Impact

Many Acts like the Maternity Benefit Act of 1961, Minimum Wages Act of 19481, or many other Acts have made a noteworthy contribution in elevating the economic aspect of the employee sector and specifically the vulnerable section of the society. Similarly, the amendment made in the Act which is of extending the limit of tax exemption for reward sum to Rs. 20,00,000 (Rupees Twenty Lakhs Only) from Rs. 10,00,000 (Rupees Ten Lakhs Only) has been professed as a constructive change presented by the Government. However, it is important to note that the Act’s applicability depends on various factors such as the minimum and maximum number of employees in the company/organization, the status or position of the respective employee in the organization, etc. Moreover, apart from other these aspects, it is suggested to employees to defy carelessness while exercising the benefits under the Act.

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Conclusion

Gratuity, the sum granted to an employee for completing more than five years of service for an organization is a token of appreciation by the employer for the employee’s longstanding services which shall be subject to enjoyment rather than taxation. The amendment made to extend the limit of the sum under the exemption is a step towards empowering such fruits that an employee deserves if all of the circumstances such as amount slab, and death of the employee, the gratuity are being met with care.

Read our Article: Gratuity: Definition, Eligibility, Calculation, and Exemption – A Complete Overview

FAQs

  1. What is the tax exemption limit for gratuity?

    As per the recent amendment, the maximum limit for gratuity to fall under tax exemption is Rs. 20,00,000. For those that do not fall under the Payment of Gratuity Act, the maximum cap is Rs. 10,00,000.

  2. Is gratuity fully exempt from tax?

    Gratuity falls within the tax exemption limit but not entirely. As per the recent amendment, the maximum limit for reward to fall under tax exemption is Rs. 20,00,000. For those that do not fall under the Payment of Gratuity Act, the maximum cap is Rs. 10,00,000.

  3. How do I claim tax exemption on gratuity?

    The exemption differs and depends on the condition of whether one is covered under the Payment of Gratuity Act. The maximum limit for the same is INR 20,00,000. While filing the ITR form, first, enter the gratuity amount as income after deducting all of the exempted amount under the head “Salaries”. Next, the same exempted sum is to be written in the “Exempt Income” section for further verification.

  4. Is gratuity taxable in the new tax regime?

    The gratuity threshold has been extended up to INR 20,00,000 from INR 10,00,000 which is tax-free. If you receive any payment more than INR 20,00,000 then the exceeded amount will however be subject to tax.

  5. How do I claim my gratuity exemption in ITR?

    The exemption differs and depends on the condition of whether one is covered under the Payment of Gratuity Act. The maximum limit for the same is INR 20,00,000. While filing the ITR form, first, enter the gratuity amount as income after deducting all of the exempted amount under the head “Salaries”. Next, the same exempted sum is to be written in the “Exempt Income” section for further verification.

  6. How do I claim a gratuity deduction from my salary?

    The exemption differs and depends on the condition of whether one is covered under the Payment of Gratuity Act. The maximum limit for the same is INR 20,00,000. While filing the ITR form, first, enter the gratuity amount as income after deducting all of the exempted amount under the head “Salaries”. Next, the same exempted sum is to be written in the “Exempt Income” section for further verification.

  7. Is the gratuity amount shown in Form 16?

    The details of gratuity are mentioned in Form 16 which will then be needed to include in ITR 1 as an exempted allowance or taxable income under Section 10 (10).

  8. How do I file a claim for gratuity?

    In order to claim gratuity, the employee shall give a written notice to the employer to retain the gratuity before retirement/resignation. The payment is then made in the next 30 days from the time of receiving the application.

  9. What is Section 10 10AA in income tax?

    10(10AA) of the Income Tax Act defines that if Leave salary encashment/gratuity is retained by an employee while being in employment period then it is completely taxable. Gratuity/Leave encashment retained at the time of termination of an employee is again entirely taxable.

  10. What is the exemption under Section 10 10AA?

    The aggregate sum exempted from income tax as per section 10(10AA)(ii) of the Income Tax Act shall be up to INR 25 lakh when any such sum is received by a non-government employee from higher than one employer in the exact same previous year.

  11. What is Section 10 10AA in ITR 1?

    The details of gratuity are mentioned in Form 16 which will then be needed to include in ITR 1 as an exempted allowance or taxable income under Section 10 (10).

  12. What is the maximum limit of 10AA?

    The gratuity threshold has been extended up to INR 20,00,000 from INR 10,oo,ooo which is tax-free. If you receive any payment more than INR 20,00,000 then the exceeded amount will however be subject to tax. The details of gratuity are mentioned in Form 16 which will then be needed to include in ITR 1 as an exempted allowance or taxable income under Section 10 (10).

  13. What is Section 10 10AA for PSU employees?

    The aggregate sum exempted from income tax as per section 10(10AA)(ii) of the Income Tax Act shall be up to INR 25 lakh when any such sum is received by a non-government employee from higher than one employer in the exact same previous year.

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References

  1. https://en.wikipedia.org/wiki/Minimum_Wages_Act_1948

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