Income Tax Exemption on Gratuity

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    19-Apr-2025

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  • Form 16
  • Bank Statement
  • Details of Other Income

Income Tax Exemption on Gratuity

Gratuity is a financial benefit provided by an employer to an employee as a token of appreciation for long-term service. It acts as a retirement benefit and serves as a significant financial cushion for employees after they leave an organization due to resignation, retirement, or other reasons.

From a tax perspective, gratuity enjoys significant income tax exemptions, making it a crucial aspect of financial planning. Understanding how gratuity is taxed and exempted under the Income Tax Act, 1961, helps employees maximize their tax savings and ensure compliance with legal provisions.

What is Gratuity?

Gratuity is a lump sum payment made by an employer to an employee as a reward for long-term service. It is not deducted from the employee’s salary but is paid in addition to salary benefits.

Key Features of Gratuity:

  • Paid to employees who serve for at least 5 years in an organization.
  • Applicable to companies with 10 or more employees.
  • Acts as a financial security after employment.
  • Tax exemptions are available based on specific rules under the Income Tax Act.

Eligibility for Gratuity

An employee is eligible for gratuity if they meet these conditions:

Minimum service requirement:

  • The employee must complete at least 5 years of continuous service.
  • In case of death or disability, this rule is waived.

Employer Type:

  • The organization must have 10 or more employees (as per the Payment of Gratuity Act, 1972).

Reasons for Payment:

Gratuity is paid when an employee:

  • Resigns after 5 years of service.
  • Retires from the job.
  • Passes away (given to nominee/legal heir).
  • Becomes permanently disabled due to an accident or illness.

Taxation of Gratuity in India

Gratuity is taxable under Section 10(10) of the Income Tax Act, 1961. However, the exemption amount depends on the type of employee.

There are three categories of employees for tax purposes:

  • Government Employees (Fully Exempt from Tax)
  • Employees Covered Under the Payment of Gratuity Act, 1972
  • Employees Not Covered Under the Payment of Gratuity Act, 1972

Eligibility for Gratuity

Gratuity is a financial benefit provided by an employer to an employee as a token of appreciation for long-term service. It is governed by the Payment of Gratuity Act, 1972 and is applicable to employees who meet certain eligibility criteria.

Who is Eligible for Gratuity?

Employment Relationship:

The individual must be a salaried employee working under a formal contract with the employer. This applies to both permanent and fixed-term employees.

Minimum Service Requirement:

To qualify for gratuity, an employee must have completed at least five years of continuous service with the same employer. This service period is counted from the date of joining until the date of resignation, retirement, or termination.

Retirement, Resignation, or Superannuation:

Employees become eligible to receive gratuity upon:

  • Retirement or superannuation.
  • Voluntary resignation after completing five years of service.

Exemption for Death or Disability:

If an employee passes away or becomes permanently disabled due to an accident or illness before completing five years of service, the gratuity is still payable. In such cases, the benefit is given to the nominee or legal heir.

Applicability to Employers:

The Payment of Gratuity Act, 1972 applies to businesses and establishments where ten or more employees have worked on any single day in the preceding 12 months.

FAQ's About Income Tax Exemption on Gratuity

1. Is gratuity taxable for private employees?

Yes, partially. The tax-free limit is ₹20 lakh, and any amount above that is taxable.

2. Can an employer refuse to pay gratuity?

No, gratuity is a legal right under the Payment of Gratuity Act, 1972. Employees can file a complaint if denied gratuity.

3. Can I receive gratuity before completing 5 years?

Generally, no. However, gratuity is paid even before 5 years in case of:

  • Death of the employee (paid to nominee).
  • Permanent disability due to accident or illness.

4. Is TDS deducted on gratuity?

No, TDS (Tax Deducted at Source) is not applicable on gratuity. However, if your total gratuity exceeds ₹20 lakh, you need to pay tax when filing ITR.

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