What is Gratuity? Eligibility, Rules & Calculation (2026 Guide)

Gratuity provides financial support when eligible employment ends through retirement, resignation, superannuation, death, disablement, or fixed-term contract completion.

• Permanent employees generally qualify after completing five years of continuous service.
• Fixed-term employees qualify after one year of continuous service, with proportionate payment.
• The five-year requirement does not apply when employment ends because of death or disablement.
• Monthly-rated employees generally receive 15 days’ wages for each eligible service year.
• The current statutory gratuity ceiling is Rs. 20 lakh.

• Employers must normally pay gratuity within 30 days after it becomes payable.

  
  

Gratuity is funded by the employer. Employees do not make monthly contributions towards this benefit.  Since 21 November 2025, gratuity provisions operate under the Code on Social Security, 2020. This Code replaced the Payment of Gratuity Act, 1972. 

How does gratuity works?

Employees do not need to contribute separately towards gratuity. The employer funds the liability directly or through an approved arrangement. Once gratuity becomes payable, the employer calculates the amount using the employee’s last-drawn wages and eligible service period. The employer must determine the amount and issue the required notice, even when the employee has not submitted an application.

What is gratuity?

Gratuity is a statutory social-security benefit paid by an employer. It recognises an employee’s service and supports post-employment financial needs. The Code generally covers factories, mines, oilfields, plantations, ports, railway companies, and qualifying shops or establishments employing at least ten employees.Once covered, an establishment generally remains covered even if its workforce later falls below the prescribed threshold.

Gratuity is a defined-benefit component of an employee’s remuneration package. It provides a lump-sum benefit when an employee separates from an organisation after completing the required period of service.

Unlike Provident Fund contributions, which involve regular deductions from an employee’s salary, gratuity is funded by the employer.

An employee may become entitled to gratuity upon:

1. Retirement: Reaching the designated retirement age.
2. Resignation: Leaving the organisation after completing the required continuous service.
3. Death or disablement: The five-year service requirement is waived in such cases.
4. VRS or retrenchment: Separation through voluntary retirement or retrenchment.

Who is eligible for gratuity?

Under the Payment of Gratuity Act, 1972, employees generally become eligible for gratuity after completing at least five continuous years of service with an organisation covered by the Act.

The five-year requirement is waived in cases of death or disablement.

The Act applies to establishments such as factories, mines, oilfields, plantations, ports, railways and commercial establishments employing 10 or more people. Once the Act becomes applicable to an establishment, it continues to apply even if the employee count subsequently falls below 10.

A judicial interpretation also recognises four years and 240 days of continuous service in certain circumstances as satisfying the five-year requirement. The application of this interpretation can depend on factors such as the nature of the establishment and workweek.

The gratuity calculation depends on whether the establishment is covered under the Payment of Gratuity Act.

Gratuity formula for establishments covered under the Act

For establishments covered by the Act, the standard formula is:

Gratuity = (15 × (Basic Salary + Dearness Allowance) × Completed Years of Service) ÷ 26

Here:

• Basic Salary + DA: The employee’s last drawn basic salary and dearness allowance.
• 15: Represents 15 days of wages for every completed year of service.
• 26: Represents the working days considered in a month for the statutory calculation.
• Completed years of service: A period exceeding six months in the final year is rounded up to the next full year.

For example, if an employee has completed 7 years and 7 months of service, the service period considered for the calculation would be 8 years.

Other components such as HRA, special allowances and medical reimbursements are excluded from the calculation under the stated formula.

Gratuity formula for establishments not covered under the Act

For establishments not covered under the Payment of Gratuity Act, the source specifies the following formula:

Gratuity = (15 × (Basic Salary + DA) × Completed Years of Service) ÷ 30

In this calculation, only fully completed years of service are considered.

Employees can use the Bajaj Finance Gratuity Calculator to estimate their potential gratuity amount.

How is gratuity calculated in case of an employee’s death?

If an employee dies while in active service, the five-year continuous service requirement is waived. The gratuity is paid to the legal nominee according to the employee’s length of service.

What are the tax rules for gratuity?

The tax treatment of gratuity depends on the employee’s sector.

Government employees

The source states that gratuity received by government employees is fully tax-exempt without a monetary ceiling.

Private-sector employees

For private-sector employees, the exempt amount is the lowest of:

1. Actual gratuity received.
2. Statutory lifetime limit of Rs. 20 lakh.
3. Gratuity calculated according to the applicable 15/26 formula.

Any amount that does not qualify for exemption is taxable according to the applicable income-tax provisions.

When should the employer pay gratuity?

The source states that the employer should disburse gratuity within 30 days of the employee’s last working day.

If payment is delayed beyond this period, the employer is required to pay 10% simple interest per annum on the delayed amount, subject to the applicable rules.

When can gratuity be forfeited?

Gratuity can be forfeited only in specified circumstances under Section 4(6) of the Payment of Gratuity Act.

These include cases where an employee’s services are terminated because of:

• Riotous or disorderly conduct
• Acts of violence
• An offence involving moral turpitude
• Wilful omission or damage causing measurable financial loss to the employer

The extent of forfeiture depends on the circumstances specified under the Act.

What can you do with your gratuity lump sum after retirement?

A gratuity payout can provide a significant lump sum at retirement or separation. How it is used depends on factors such as liquidity requirements, income needs, investment horizon and risk tolerance.

Possible uses include:

• Maintaining part of the amount as an emergency reserve.
• Meeting planned retirement expenses.
• Using a portion for immediate financial obligations.
• Considering investment options that provide periodic income.
• Comparing fixed-income products based on tenure, interest rates, payout frequency and applicable tax treatment.

The source specifically discusses Fixed Deposits as one option for deploying a gratuity lump sum and highlights monthly, quarterly and cumulative payout structures.

What is gratuity nominee?

A gratuity nominee is the person designated to receive the benefit if the employee dies before receiving it. An employee generally submits a nomination after completing one year of service. Employees with families must ordinarily nominate eligible family members. Employees should update nominations after marriage, family changes, or a nominee’s death. Without a valid nominee, payment goes to eligible legal heirs.

When is gratuity payable?

Gratuity becomes payable when eligible employment ends because of:

• Superannuation
• Retirement
• Resignation
• Death
• Disablement caused by accident or disease
• Expiry of eligible fixed-term employment

• Another event notified by the Central Government

  
  

The employer should calculate and pay the amount within the prescribed period after gratuity becomes payable.

Conclusion

Gratuity is an important employment-linked benefit that can provide a lump sum after retirement or other qualifying forms of separation. Understanding the eligibility conditions, applicable calculation formula, tax treatment and payment rules can help employees estimate their potential entitlement.

For employees covered under the Payment of Gratuity Act, the standard calculation generally uses 15 days of wages for every completed year of service, based on the last drawn basic salary and dearness allowance. The applicable tax exemption and service conditions depend on the employee’s circumstances and the prevailing rules.

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