Most employees know that gratuity exists somewhere in their CTC breakdown, but far fewer understand how it actually works — who qualifies, how much they will receive, when they will get it, and what changed after the new labour codes came into force in late 2025.
This guide covers all of it. Whether you are a permanent employee, a contract worker, an HR manager handling compliance, or simply trying to figure out if you are owed money when you leave your job — read this once and you will have a clear picture.
Gratuity is a lump-sum payment that an employer is legally required to make to an employee at the time of their exit from the organisation, as a recognition of long-term service. It is not deducted from your monthly salary — the entire amount comes from the employer when you leave.
In India, gratuity is governed by the Payment of Gratuity Act, 1972, which has now been subsumed into the Code on Social Security, 2020 — effective from November 21, 2025. The core principle remains: serve long enough, and you are entitled to a meaningful financial benefit when you go.
It is payable at the time of:
2026 Update: Under the Code on Social Security, 2020 (effective November 21, 2025), the definition of "wages" for gratuity calculation has been expanded and fixed-term employees now have formal gratuity rights for the first time. Both changes are covered in detail below.
The law applies to:
Once a company crosses the 10-employee threshold, the obligation never falls away — even if headcount later drops below 10.
Permanent / Regular Employees
The rule has not changed for permanent employees. You must complete a minimum of 5 years of continuous service with the same employer to become eligible for gratuity.
The 240-Day Rule: If you work at least 240 days in your fifth year of service, that year is counted as complete even if you leave before the full 12 months are up. So in practice, completing 4 years and 240 days can qualify you.
Fixed-Term / Contract Employees (New Rule from November 2025)
This is the biggest change under the new labour codes. Fixed-term employees — those hired on a contract with a defined start and end date — are now eligible for pro-rata gratuity after just 1 year of continuous service. Previously, they had no gratuity entitlement at all unless they crossed the 5-year threshold, which most contract roles never reached.
Who counts as a fixed-term employee? Anyone hired directly by the establishment through an appointment letter or contract that specifies a clear start and end date. Note that third-party contract workers (deployed through a staffing agency or vendor) and independent freelancers fall under a different framework — this change primarily benefits those directly hired on fixed-term contracts by the employer.
Death or Permanent Disability
The 5-year minimum does not apply here. If an employee dies or becomes permanently disabled, gratuity is calculated on the actual period of service — however short — and paid to the nominee or legal heirs.
The Formula
Gratuity = (Last Drawn Salary × 15 × Completed Years of Service) ÷ 26
Where:
Practical Example
Say your basic + DA is ₹45,000 per month and you have worked for 7 years and 8 months (rounds up to 8 years):
Gratuity = ₹45,000 × 15 × 8 ÷ 26 = ₹2,07,692
This is the less-discussed but financially significant change from the new labour codes. Under the Code on Wages, 2019 (now in effect), allowances paid to an employee cannot exceed 50% of total remuneration. If they do, the excess is treated as "wages" for statutory calculation purposes.
In plain terms: if your employer has structured your salary with a very low basic pay and a large chunk of special allowances (a common practice to keep PF and gratuity liabilities low), that structure no longer works as intended. The excess allowance gets added to the wage base, which means your gratuity calculation base is higher than it used to be.
This change is expected to increase gratuity payouts meaningfully for employees in organisations that have maintained low basic pay structures.
The statutory ceiling on gratuity is ₹20 lakh. Employers can voluntarily pay more, but the legally mandated limit is ₹20 lakh. The same ₹20 lakh figure is also the tax-exempt ceiling for private sector employees.
Employee Type
Calculation Basis
Regular / permanent employee
Standard formula (15 days × years ÷ 26)
Fixed-term employee
Pro-rata basis after 1 year of service
Piece-rated worker
Average wages of the 3 months preceding exit × 15 × years ÷ 26
Seasonal employee
7 days' wages per season worked
Death / disability case
Actual service period (no minimum service required)
Payment timeline: The employer must pay gratuity within 30 days from the date it becomes due. Delays beyond 30 days attract interest, and continued non-payment can lead to penalties and recovery proceedings.
No deductions from salary: Gratuity is entirely employer-funded. Nothing is cut from your monthly salary for this purpose.
Higher voluntary payments allowed: Employers can pay more than the statutory formula amount if they wish. Many large organisations have internal policies that are more generous than the legal minimum.
Employer cannot condition gratuity on notice period serving: Gratuity entitlement is based on service rendered, not on how you exited. Even in cases of resignation, as long as the service threshold is met, the employer must pay.
Forfeiture is limited to specific cases only: An employer can forfeit all or part of the gratuity only in these circumstances:
A formal domestic inquiry is mandatory before any forfeiture. Simple resignation, poor performance, or minor misconduct does not give the employer the right to withhold gratuity.
Employee Category
Tax Exemption
Government employees
Fully exempt — no tax on any amount
Private sector employees (Act-covered)
Exempt up to ₹20 lakh
Private sector employees (non-Act-covered)
Exempt up to ₹20 lakh, subject to certain conditions
Any amount received above ₹20 lakh is taxable as income in the year of receipt.
An employee should nominate a person to receive the gratuity in case of their death. This is done through Form F, submitted to the employer.
Who to nominate: Any family member — spouse, children, parents. If the employee has a family at the time of nomination, the nominee must be a family member.
What happens without a nomination: If Form F was never submitted, the gratuity is paid to the legal heir(s) of the deceased employee.
How to fill Form F:
Form F is available on the Ministry of Labour and Employment's official website or through your company's HR portal.
When you leave your job and become eligible for gratuity, you need to submit Form I (Application for Gratuity) to your employer.
Step 1: Obtain Form I from your HR department or download it from the Ministry of Labour website.
Step 2: Fill in your details — name, address, department, date of joining, date of leaving, and reason for leaving.
Step 3: Submit the completed form to your employer along with your resignation letter or retirement order.
Step 4: The employer is required to process and pay the gratuity within 30 days of receiving the application. If they require more time to determine eligibility or the amount, they must communicate this in writing.
Step 5: If the employer disputes the amount or delays payment beyond 30 days, you can raise a complaint with the Controlling Authority under the Gratuity Act, which is typically the Assistant Labour Commissioner in your jurisdiction.
Both are post-retirement benefits, but they work very differently:
Feature
Gratuity
Pension
Payment structure
One-time lump sum
Regular monthly payment
Funded by
Employer entirely
Employer (govt) or pension fund
Eligibility trigger
Minimum service + exit event
Depends on scheme
Tax treatment
Exempt up to ₹20 lakh (private sector)
Taxability varies by scheme
Nomination
Form F under Gratuity Act
Specified during scheme enrollment
Change
Old Rule
New Rule
Fixed-term employee eligibility
5 years (rarely achievable)
1 year of continuous service
Wage definition for calculation
Basic + DA only
Allowances capped at 50% of total pay; excess counted as wages
Maximum gratuity ceiling
₹20 lakh
₹20 lakh (unchanged)
Formula
15 × years ÷ 26
Same formula, but higher wage base in many cases
Effective date
Payment of Gratuity Act, 1972
Code on Social Security, 2020 — from November 21, 2025 (prospective only)
Important: These changes apply prospectively from November 21, 2025. Service completed before that date is calculated under the old rules. For employees retiring or resigning after November 21, 2025, the new higher wage definition applies to the full gratuity calculation.
Is gratuity deducted from my monthly salary?
No. Gratuity is paid entirely by the employer when you exit. Nothing is cut from your take-home pay for this purpose — though many employers include it as a line item in CTC to show the total cost of employing you.
Can I receive gratuity if I resign before completing 5 years?
If you are a permanent employee, no — you need to complete 5 years (or 4 years and 240 days in the fifth year) to be eligible. If you are on a fixed-term contract hired directly by the employer, you are eligible for pro-rata gratuity after 1 year under the new rules.
Is gratuity mandatory for private companies?
Yes. Any private company with 10 or more employees is legally required to pay gratuity under the law. It is not optional, and failure to pay attracts interest and penalties.
What if my employer refuses to pay gratuity?
File a formal complaint with the Controlling Authority (typically the Assistant Labour Commissioner in your district). You can also send a legal notice to the employer. The authority can compel payment along with interest for the delay.
Is gratuity taxable?
For private sector employees covered under the Act, gratuity up to ₹20 lakh is fully tax-exempt. Any amount above ₹20 lakh is treated as income and taxed accordingly. Government employees enjoy full exemption regardless of the amount.
What happens to my gratuity if I die while in service?
It is paid to your nominee (as per Form F) immediately, without any minimum service requirement. If no nominee was registered, it goes to your legal heir(s).
Can an employer include gratuity in the CTC and then deduct it from the final settlement?
No. Including gratuity in CTC is a presentation practice, not an authorisation to deduct it from salary. Gratuity is always paid out of employer funds at the time of exit. Deducting it from full and final settlement is not legally permitted.
Does the new 1-year rule apply to all contract workers?
Not to all. Third-party contract workers deployed through staffing agencies, and independent freelancers, are governed by a separate framework. The 1-year rule applies to employees directly hired by an establishment on a fixed-term contract with a defined start and end date.
Gratuity is one of those benefits that sits quietly in your CTC for years and then becomes very significant at the time of exit. Understanding how it is calculated, when you qualify, and what you need to do to claim it puts you in a far better position — both as an employee planning your finances and as an employer managing your compliance obligations.
The November 2025 labour code changes have made gratuity more inclusive and, in many cases, more valuable. If you are a fixed-term employee who previously assumed you had no gratuity rights, that assumption no longer holds. And if you are a permanent employee with a salary structure heavy on allowances, your eventual payout may be higher than your older estimates.
Ministry of Labour and Employment: labour.gov.in Controlling Authority for Disputes: Assistant Labour Commissioner in your district
This article is for informational purposes only. For legal advice specific to your situation, consult a qualified labour law practitioner. For official updates, refer to labour.gov.in.
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