Now you can get higher gratuity without paying taxes. The Government is going to increase the limit for tax-free gratuity.
The union cabinet has decided to increase the tax-free gratuity limit to ₹20 lakhs. As of now, it is ₹10 lakhs. This decision would benefit the employees of the private sector and PSUs. The central government employees have already got this relaxation through the Seventh Pay Commission.
Soon There Would be New Gratuity Law
The decision to increase the tax-free gratuity limit is taken by the union cabinet. But the government can’t implement it immediately. As it requires the change in gratuity act.
The new gratuity act – The Payment of Gratuity (Amendment) Bill, 2017- would be presented in the parliament. After the parliament approval, the bill would go to the president. The approval from the president would make it a law. Hence, you can expect the new law after the winter session of 2017. The final implementation might be in early 2018. In this act, the formula and rules of the gratuity are the same as earlier.
What is Gratuity
Gratuity is a lump sum payment to the employees. Every organization who employs 10 or more people pay gratuity to its employees. It is mandatory by law.
You get gratuity at the time of leaving the job. This can be at the time of retirement or before that. To get the gratuity you must be in a job minimum for 5 years.
Recommended: 5 Important Things To Know About Gratuity
The amount of gratuity is decided on the basis of a formula. This formula takes account of your last basic salary and years of service. As a thumb rule, you get 15 days basic salary for every year of the service. The formula is given below.
Basic salary x Years of service x 15/26
Learn More: Gratuity Formula and Calculator
Why is There A Limit on Gratuity
You get gratuity at the time of leaving the service. Like any other income, this amount should be taxable. But the government gives concession to the gratuity payment. No tax is charged on the gratuity payment to employees.
However, the gratuity can’t become a way to avoid the taxes. Hence, the government has fixed a limit for Tax-free gratuity. By this limit, the government tries to restrict tax-free payment of a very high amount. That is why the limit is fixed considering the median salary of the employees.
Till some years back, most of the employees got the gratuity of less than ₹10 lakhs. Therefore, ₹10 lakh limit was justified. But now, with the increase of salaries, limit of ₹10 lakhs was hurting to some.
Who Would Benefit
It is good that the government has increased the tax-free limit of gratuity. But, very few people would benefit immediately from this change. You would agree that a few lucky people get a gratuity of more than ₹10 lakhs.
To get a higher gratuity amount, your last drawn salary should be high. Also, longer duration of service would give you the higher gratuity. Our calculation shows that immediate beneficiaries of this change will be very senior level employees. Most of the employees are not going to benefit from this move immediately.
However, in the long run, this change would benefit to the younger employee. As, after long service duration, your gratuity may exceed the ₹10 lakh limit.
Decoding The benefit of Higher Limit of Tax-free Gratuity
Your gratuity depends upon two factors. i) last drawn basic monthly salary and, ii) number of years in service.
Further, the limit for tax-free gratuity is for the lifetime. It means the gratuity from different jobs would be considered for this limit.
Suppose, you have got a gratuity of ₹6 lakhs in the previous job and getting a gratuity of 5 lakhs in the current job. If the tax-free limit is only ₹10 lakhs, the gratuity of ₹1 lakh (5 lakhs+6 lakhs -10 lakhs) would be taxable. Hence, if the tax-free gratuity limit increases to 20 lakhs, there would not be any tax liability in this case.
I have prepared a gratuity table which shows the amount of gratuity you would get. I have marked those cells blue which have the gratuity of more than ₹10 lakhs.Only these people would benefit from the new tax-free gratuity limit.
*The above table is applicable for people covered under the Gratuity Act, 1972.
* Assumption: There is no dearness allowance and commission on sales in a person’s salary. It is also assumed that a person works continuously with one employer.
You can see in the above chart that if your salary is high or longer service years, the gratuity would exceed the ₹10 lakhs. In such case, the excess amount was taxable. But, because of the new rule, all these people would not pay any tax on the gratuity amount. Now, you have to pay tax on gratuity only if your gratuity exceeds ₹20 lakhs.
By going through this chart, you can assume that ₹20 lakh limit is not going to impact you as your gratuity is far less than ₹10 lakhs. But, you must see into the future. The salaries are rising and after 15-20 years your basic salary may become very high and you may fall in 10 lakh or even in 20 lakh gratuity bracket. let us understand it by an example.
Suppose, you earn ₹20 thousand/month. Your salary grows 7% per year. In this case, your gratuity would cross 10 lakhs after 21 years of the service. It would cross ₹20 lakhs after the 28 years of the service. So, this enhanced limit would benefit to those employees who would work for a longer period.
Besides Gratuity, there are many other incomes which are tax-free. You can use them to save more tax.