Payment of Gratuity Act, 1972: Eligibility, Calculation & 2026 Update
Table of Contents
The Payment of Gratuity Act, 1972 is set to be subsumed into Chapter V of the Code on Social Security, 2020, replacing standalone provisions upon complete statutory notification. Key operational principles remain largely intact: the five-year eligibility rule, the 15/26 calculation formula, and the ₹20 lakh ceiling all carried over largely unchanged. However, two critical statutory modifications directly impact current payroll compliance: fixed-term employees now qualify for a pro-rata payout after just one year, and a new uniform wage definition changes what counts in the calculation.
Key Takeaways
- Confirm the replacement of the 1972 Act under the Code on Social Security, 2020, noting key retained provisions.
- Understand the 240-day and 190-day continuous service thresholds.
- Note that fixed-term employees are now entitled to pro-rata gratuity after one year of service.
- Review how the 50% allowance cap in the revised wage definition alters the calculation base.
- Confirm that the statutory gratuity ceiling remains capped at ₹20 lakh.
- Identify the updated statutory forms that replace Forms F, I, J, and L.
What is the Payment of Gratuity Act, 1972?
The Payment of Gratuity Act, 1972 served as the primary legislation governing gratuity payments to eligible employees in India. It established key rules for eligibility, calculation, nomination, forfeiture, and payment of gratuity.
With its repeal, these statutory provisions are now integrated into Chapter V of the Code on Social Security, 2020.
Who is Eligible, and Who Qualifies Early?
Section 53 sets the core eligibility test, with three situations that bypass it entirely.
- Standard Eligibility: Requires 5 years of continuous service.
- Working Journalists: Eligible after 3 years of continuous service.
- Death or Disablement: The 5-year continuous service requirement is waived.
- Fixed-Term Employees: Eligible on a pro-rata basis upon completion of their contract term.
The 240- and 190-Day Rule: Defining “Continuous Service
Continuous service is not determined only by counting five calendar years. The number of days worked during each year is also considered:
- 240 days in a 12-month period for most establishments.
- 190 days in a 12-month period for establishments working underground in mines or operating fewer than 6 days a week.
- Approved leave with wages, period of lay-off, and statutory maternity leave are explicitly included when calculating continuous service.
This means an employee may meet the continuous-service requirement based on the applicable working-day threshold, even if the employment period does not appear to be exactly five full calendar years.
Fixed-Term Employees Now Qualify after Just One Year
The Code on Social Security, 2020 changes the gratuity position for fixed-term employees. They can receive gratuity on a pro-rata basis when their fixed-term contract ends, without having to complete the standard five-year service period.
| Permanent Employee | Fixed-Term Employee | |
|---|---|---|
| Minimum service for eligibility | 5 years | 1 year (Payable pro-rata on contract expiry) |
| Calculation formula | (15 × last drawn wages × completed years) / 26 | Same formula, applied on a pro-rata basis |
| Basis | Actual period of service | Pro-rata based on active contract duration |
For example, a fixed-term employee completing an 18-month contract will receive a pro-rata gratuity calculated based on 1.5 years of service, subject to applicable wage rules.
How Gratuity is Calculated
The basic gratuity formula remains largely unchanged under the Code on Social Security, 2020.
- For covered establishments: Gratuity = (15 × last drawn wages × completed years of service) ÷ 26
- For establishments not covered by this formula: Gratuity = (15 × last drawn wages × completed years of service) ÷ 30
- Proportionate Rounding: Service exceeding six months in a given year is rounded up to the next full year. Any period of six months or less is disregarded.
For example, an employee with 10 years and 7 months of service is treated as having 11 years of service for calculation purposes.
The Wage Definition Changed Too: What the 50% Rule does to the Base
The gratuity formula remains largely unchanged, but the definition of wages used in the calculation has changed under the new Code.
Wages include basic pay, dearness allowance, and retaining allowance. Under the uniform wage definition, if total excluded allowances exceed 50% of total remuneration, the excess amount is added back to basic wages for statutory calculation purposes.
For example, if an employee earns ₹1,00,000 a month and basic pay and dearness allowance together account for only 35% of the total, the 50% rule may increase the wage base used for gratuity calculation.
The same wage definition also affects provident fund contributions and retrenchment compensation under the new labour codes.
The ₹20 Lakh Statutory Ceiling and Tax Exemption Limits
The statutory gratuity ceiling remains at ₹20 lakh under the current framework, as per the 2018 notification.
- Statutory limit: ₹20 lakh.
- Exceeding the Statutory Cap: Employers may voluntarily pay gratuity exceeding ₹20 lakh; however, the amount beyond ₹20 lakh is not governed by statutory obligations.
- Tax treatment: The ₹20 lakh statutory ceiling and the income-tax exemption limit are separate. Amounts above the applicable tax-exempt limit may be taxable.
- Previous gratuity: Payroll teams should consider gratuity already received from previous employers when determining the employee’s available tax exemption.
This distinction is important because the statutory ceiling determines the gratuity payable under the law, while tax rules determine how much of the amount received is exempt from tax.
Nomination, Forfeiture, and Payment Procedure
Nomination (Section 55)
Every employee who completes one year of service must submit a nomination naming a beneficiary. A nomination favoring someone outside the family becomes invalid once the employee has a family, requiring a new nomination to be submitted.
Forfeiture for Property Damage (Section 53(6)(a))
Gratuity may be forfeited to the extent of damage or loss in cases where an employee’s service is terminated due to wilful damage or destruction of employer property, strictly limited to the extent of the damage caused.
Forfeiture for Misconduct (Section 53(6)(b))
Gratuity may be wholly or partly forfeited where termination follows riotous or violent conduct, or an offense involving moral turpitude. Standard performance management issues or non-statutory misconduct do not fulfill the legal threshold for forfeiture.
Determination and Notice (Section 56)
The employer must determine the amount payable and issue written notice to both the employee and the designated Competent Authority, replacing the former Controlling Authority framework under the revised Code.
Compulsory Insurance (Section 57)
Employers must insure their gratuity liability or maintain an approved gratuity fund, continuing the requirement the repealed Act placed under Section 4A, the same funded-benefit logic that applies to the Employees’ Provident Fund Act, 1952.
New Forms under the Social Security (Central) Rules, 2026
The forms used by employees and employers to administer gratuity were revised under the Social Security (Central) Rules, 2026. These Rules, notified on 8 May 2026, approximately six and a half months after the Code commenced, officially operationalized the new framework.
| New Form | Purpose |
|---|---|
| Form III | Nomination, fresh nomination, or modification of nomination |
| Form IV | Application for gratuity by an employee, nominee, or legal heir |
| Form V | Notice of payment or rejection of a gratuity claim |
Any establishment still filing on the repealed Act’s old forms should update its payroll and HR templates to use these three, as Form V specifically introduces the statutory notice obligation under Section 56(2), which did not exist in the previous form.
What Happens if an Employer Delays or Refuses to Pay?
Employees have clear legal remedies if gratuity payments are delayed or disputed.
- Interest on delayed payment: Simple interest accrues on unpaid gratuity, maintaining the 10% annual rate previously mandated under the repealed Act.
- Complaint to the competent authority: An employee or nominee may approach the competent authority directly, without first filing a civil suit.
- Appeal window: An aggrieved party has 60 days to file an appeal against an order issued by the competent authority.
- Penalties for non-payment: Non-compliant employers face fines, imprisonment, or both under the statutory penalty provisions.
Compliance Checklist for Employers
- Update policy citations: Reference the Code on Social Security, 2020 across employment contracts and HR policy manuals.
- Audit fixed-term contracts: Ensure payroll calculates pro-rata gratuity upon contract expiration without enforcing the standard five-year minimum service requirement.
- Verify basic pay ratios: Confirm that basic pay and dearness allowance combined equal at least 50% of total remuneration to ensure accurate wage base calculations.
- Track statutory tax exemption limits: Verify whether incoming senior hires have utilized any portion of their ₹20 lakh lifetime tax exemption with prior employers.
- Adopt updated statutory forms: Replace old Forms F, I, J, and L with the newly prescribed Forms III, IV, and V.
- Review insurance and trust setups: Verify that existing gratuity insurance policies or approved funds comply with Section 57 of the new Code.
- Document forfeiture grounds: Maintain precise documentation for any forfeiture decisions, distinguishing between property damage and misconduct, as they are subject to different statutory caps.
- Align onboarding salary structures: Check CTC, gross salary, and net salary against the updated wage definition before onboarding new hires.
Conclusion
While the transition to the Code on Social Security, 2020 retains the foundational structure of gratuity, key revisions significantly affect fixed-term employment and the calculation basis.
For employers, the priority should be to update salary structures, review gratuity eligibility, adopt the new forms, and ensure payroll systems reflect the current rules. To maintain continuous compliance as rules evolve, organizations should rely on automated payroll systems and accurate master data management.
Related Compliance Guides
Frequently Asked Questions
Has the Payment of Gratuity Act, 1972 been Repealed?
Yes. The Act was repealed with effect from 21 November 2025, and its provisions are now consolidated under Chapter V of the Code on Social Security, 2020.
Do Fixed-Term Employees Qualify for Gratuity?
Yes. Fixed-term employees are entitled to pro-rata gratuity under the new framework, without needing to complete the standard five-year continuous service period applicable to permanent employees.
How is Gratuity Calculated?
For covered establishments, gratuity is calculated as 15 days’ wages for each completed year of service, using the 26-day monthly divisor formula. Calculations must incorporate the unified wage definition under the Code on Social Security, 2020.
Is the ₹20 Lakh Gratuity Limit Still Applicable?
Yes. The statutory ceiling for tax-exempt gratuity remains ₹20 lakh. Employers may choose to pay a higher amount, but any excess above ₹20 lakh falls outside the statutory exemption limit.
What Counts as Continuous Service for Gratuity?
Continuous service is evaluated based on actual working days within a 12-month period rather than simple calendar tenure. The standard threshold is 240 working days (or 190 working days for establishments operating underground or in seasonal sectors).
Has the Wage Definition for Gratuity Changed?
Yes. The Code introduces a standardized definition of wages, establishing that specified allowances cannot exceed 50% of total remuneration. If allowances exceed 50%, the excess is added back to basic pay, thereby increasing the wage base used to calculate gratuity.
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