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    How to calculate taxable portion of gratuity

    Synopsis

    Currently, maximum tax-exempt gratuity is Rs 10 lakh. The government has tabled the Payment of Gratuity (Amendment) Bill, 2017 to raise the limit to Rs 20 lakh.

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    The current maximum tax-exempt gratuity amount is available to him for his entire working life.
    Gratuity is receivable at the time of your retirement or when you have resigned from an organisation. In either case, a gratuity is receivable only after working continuously for 5 years.

    A part of this gratuity can be taxable depending on how much money you have received.

    As per current law, gratuity received by a government employee is fully exempt from tax. The maximum amount they can receive is Rs 20 lakh as per amendments made following the 7th Pay Commission recommendations.

    However, for non-government employees the maximum tax-exempt gratuity limit is Rs 10 lakh as of now. To remove this anomaly, the government has cleared the Payment of Gratuity (Amendment) Bill, 2017 and has tabled it in Parliament to raise the maximum tax-exempt gratuity limit for non-government employees to Rs 20 lakh. If the Bill is passed, it would bring the maximum tax-exempted amount on par with that for government employees.

    Also Read: Who will gain from the new tax-exempt gratuity-limit of Rs 20 lakh for non-government employees?

    Taxation of gratuity received
    To calculate the tax-exempt gratuity amount, the law divides non-government employees into two categories: those who are covered under the Payment of Gratuity Act, 1972, and those who are not covered under the Act.

    The maximum tax-exempt amount is the same for both categories of employees but the division is done because the formula to calculate the gratuity amount receivable under the law is different. Here, an employee must remember that the current maximum tax-exempt gratuity amount is available to him for his entire working life.

    During the working period, as he avails the exemption on gratuity received post resigning, the amount of tax-exempt gratuity available in the future will come down. Suppose you have received a gratuity of Rs 2 lakh from your employer. If full exemption is claimed on the amount received, then in the future you can avail a maximum tax exemption of Rs 8 lakh only, as per the current laws.

    For the non-government employees covered under the Payment of Gratuity Act
    The Payment of Gratuity Act states that if an employee, covered under the Act, receives gratuity, the minimum of the following shall be exempted from the tax:
    a) Rs 10 lakh; or
    b) Actual gratuity received; or
    c) Amount of gratuity an employee is eligible to receive, i.e., 15 days salary based on the last drawn salary for each completed year of service or part thereof in excess of six months.

    The formula to calculate the amount of gratuity an employee is eligible to receive is:
    (15 X last drawn salary X years of service) / 26.

    Here, the last drawn salary means basic salary, dearness allowance, and commission on sales, if any. If the number of months served in the last year of service exceeds 6 months, it is taken as one full year of service for the purpose of calculating years of service.

    For instance, if an employee has worked for 15 years and 7 months, then the years of service will be taken as 16 years. However, if the employee has worked for 15 years and 5 months, then the years of service will be taken as 15.

    Also Read: How to calculate gratuity?

    For non-government employees not covered under the Payment of Gratuity Act
    An employer can pay gratuity to his employees even if the organisation is not covered under the Act.

    For such employees, the taxable amount of gratuity will be minimum of the following:
    a) Rs 10 lakh; or
    b) Actual gratuity limit; or
    c) Half month's average salary for each completed year of service.

    The average of salary is taken as the average of the last 10 months immediately preceding the last month. The definition of salary is same as defined above.

    It is calculated as: (Average salary X 15 days X tenure of working)/ 30.

    Unlike employees covered under the gratuity Act whose services are in excess of 6 months are taken as a full year, for those not covered under the Act, only a whole year is taken as a completed year. Any months will be excluded from the calculation.

    The maximum amount of gratuity a government employee can receive is Rs 20 lakh, whereas there is no restriction on the amount of gratuity a non-government employee can receive. An employer can pay higher than what an employee is actually eligible to receive, but the tax exempt and taxable portions will be calculated as described above.

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    (Your legal guide on estate planning, inheritance, will and more.)

    Download The Economic Times News App to get Daily Market Updates & Live Business News.

    ...more
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