Gratuity Rule in India: Eligibility, Ceiling and Calculation Explained

Gratuity is one of those salary components that shows up on a CTC sheet for years before anyone reads the fine print. It only becomes relevant when an employee leaves a job, and by then the rules feel unfamiliar. The gratuity rule in India isn't complicated once it's broken down, but it does depend on a specific Act, a specific formula, and a ceiling that has changed more than once in the last decade. This guide walks through eligibility, the calculation, the current tax-free limit, and what happens to gratuity during a full and final settlement.

Payment of Gratuity Act 1972: Key Provisions

The gratuity rule in India comes from the Payment of Gratuity Act, 1972, which applies to factories, mines, oilfields, plantations, ports, railway companies, shops, and any establishment with 10 or more employees. Under Section 4(1) of the Act, gratuity becomes payable to an employee on termination of employment after they have rendered continuous service of not less than five years, whether that termination happens through superannuation, retirement, resignation, death, or disablement.

The amount itself is worked out using a fixed formula set out in Section 4(2): last drawn salary (basic pay plus dearness allowance) multiplied by 15, multiplied by the number of completed years of service, divided by 26. The 26 in the denominator represents the number of working days the law assumes in a month, after excluding four Sundays. That's why the formula is usually written as the "15/26 rule."

For example, an employee with a last drawn basic-plus-DA of ₹50,000 who completes 12 years of continuous service would be entitled to: ₹50,000 × 15 × 12 ÷ 26 = ₹3,46,153.85, before applying any statutory ceiling.

The Act also gives employers a narrow set of grounds to withhold gratuity. Under Section 4(6)(a), gratuity can be forfeited to the extent of any loss caused by an employee's wilful negligence or damage to company property. Under Section 4(6)(b), it can be wholly or partly forfeited if the employee's services were terminated for riotous or disorderly conduct, an act of violence, or an act constituting an offence involving moral turpitude committed in the course of employment. These are exceptions, not the default, and the Controlling Authority under the Act adjudicates disputes over whether forfeiture was justified.

Disputes over eligibility, calculation, or forfeiture go through a two-tier structure built into the Act. A Controlling Authority hears the initial claim, and its order can be appealed to an Appellate Authority appointed by the state or central government. Neither of these is a civil court; both function as executive bodies with quasi-judicial powers, which is part of why gratuity disputes tend to move faster than ordinary civil litigation.

The definition of "employee" under the Act has also expanded over time. A 2009 amendment broadened it to cover any person employed to do skilled, unskilled, manual, supervisory, technical, or clerical work, regardless of whether the employment terms are express or implied, and removed an earlier wage-based ceiling that had excluded higher-paid staff from coverage altogether. In effect, this means gratuity applies across pay grades in a covered establishment, not just to lower-wage employees.

Eligibility Exceptions: Death, Disability, Contract Workers

The five-year continuous service rule is the general condition for eligibility for gratuity, but the Act carves out specific exceptions.

The clearest one sits in the proviso to Section 4(1): the five-year requirement does not apply where the employee's service ends due to death or disablement caused by accident or disease. In these situations, gratuity is calculated on whatever service was actually rendered and paid to the employee or, in the case of death, to the nominee or legal heir.

Continuous service itself has a specific legal meaning. Periods of authorised leave, sickness, layoff, strike, or lockout are counted toward the five years, as long as they aren't the employee's fault. Courts have also held that completing 240 days of work in what would be the fifth year is treated as having completed five years of continuous service for this purpose.

Contract and fixed-term workers were, for a long time, excluded from this benefit unless they crossed the five-year mark like any other employee. That changed with the four labour codes that came into force on 21 November 2025, replacing the earlier framework of separate labour statutes. Under the Code on Social Security, 2020, fixed-term employees became eligible for gratuity after completing just one year of continuous service, rather than five. The five-year rule remains unchanged for employees on regular or permanent rolls. This distinction matters: the shortened eligibility period applies specifically to fixed-term contracts recognised under the new codes, not to casual work or informal daily-wage arrangements.

Apprentices engaged under the Apprentices Act are excluded from gratuity coverage altogether, regardless of how long they serve.

Maternity leave is another area where the continuous-service calculation matters. Read alongside the Maternity Benefit (Amendment) Act, 2017, maternity leave is treated as part of continuous service rather than a break in it, so an employee doesn't lose ground toward the five-year threshold for taking leave she's legally entitled to.

Voluntary retirement is covered under the same "retirement" heading in Section 4(1) as regular superannuation, so an employee who exits through a voluntary retirement scheme after completing five years of continuous service qualifies for gratuity in the same way as someone who retires at the standard age. Layoffs and lockouts that aren't the employee's fault also count toward continuous service rather than breaking it, which matters for employees whose service history includes periods of plant shutdowns or industrial action outside their control.

Gratuity Ceiling and Recent Amendments

Two separate ceilings apply to gratuity, and it's easy to mix them up.

The first is the maximum amount an employer is required to pay under the Act itself, fixed under Section 4(3). This ceiling was raised from ₹10 lakh to ₹20 lakh with effect from 29 March 2018, through Central Government Notification S.O. 1420(E). An employer can choose to pay more than this as an ex-gratia amount, but the Act doesn't require it.

The second ceiling is the income-tax exemption limit under Section 10(10) of the Income Tax Act, 1961. For employees covered by the Payment of Gratuity Act, this exemption is also ₹20 lakh, confirmed through CBDT Notification No. 16/2019 (S.O. 1213(E)) dated 8 March 2019, applicable to gratuity received on or after 29 March 2018. Anything paid above this ceiling is added to taxable salary income for that year.

The more recent amendment affecting how gratuity is calculated, rather than its ceiling, arrived through the Code on Wages, 2019, effective from 21 November 2025 alongside the other labour codes. It requires that "wages" used for statutory calculations, including gratuity, must comprise at least 50% of an employee's total remuneration as basic pay, dearness allowance, and retaining allowance. Where other allowances push this below 50%, the excess is added back into the wage base used for the gratuity formula. In practice, this raises the gratuity payout for employees whose CTC structure has historically kept basic pay low to minimise statutory deductions.

For example, an employee with a monthly CTC of ₹2,57,000 and a basic salary of ₹1,00,000 (about 39% of CTC) previously had gratuity calculated only on that ₹1,00,000 basic figure. Under the revised wage definition, since basic pay falls below the 50% threshold, a portion of the other allowances gets added back into the wage base used for the gratuity formula, which pushes the effective calculation salary, and therefore the final payout, higher than it would have been under the pre-2025 rules. The exact increase depends on how each employee's CTC is structured, so it varies from one payslip to the next rather than following a single fixed percentage.

Gratuity for Private vs Government Employees

The calculation of gratuity for private employees and for central government employees follows two different sets of rules entirely.

Private-sector and PSU employees covered under the Payment of Gratuity Act use the 15/26 formula described earlier, capped at ₹20 lakh, with tax exemption also capped at ₹20 lakh under Section 10(10)(ii) or 10(10)(iii).

Central government employees are instead covered by the Central Civil Services (Pension) Rules, 2021, and receive what's called a Death-cum-Retirement Gratuity (DCRG). The DCRG formula uses one-fourth of monthly emoluments (basic pay plus DA) for each completed six-month period of qualifying service, rather than a per-year figure. The maximum DCRG payable was revised from ₹20 lakh to ₹25 lakh with effect from 1 January 2024, following a Department of Pension and Pensioners' Welfare office memorandum dated 30 May 2024, issued once dearness allowance crossed the 50% mark. Government employees also get full tax exemption on this amount under Section 10(10)(i), with no upper ceiling on the exemption itself, unlike private-sector employees.

For example, a central government employee with a last drawn basic pay of ₹56,100 and dearness allowance of 60% (₹33,660) has monthly emoluments of ₹89,760. Thirty years and four months of qualifying service rounds to 60 completed half-year periods. DCRG would then work out to ₹89,760 × 60 ÷ 4 = ₹13,46,400, well under the ₹25 lakh ceiling and fully exempt from tax regardless of the amount. A private-sector employee with the same 30-plus years of service and a comparable last drawn salary, by contrast, would have the 15/26 formula applied instead, and any amount above ₹20 lakh would be added to taxable income for that year.

PSU employees sit in a slightly different position from both categories. Even where a public sector undertaking is government-owned, its employees are typically covered under the Payment of Gratuity Act rather than the CCS Pension Rules, which means they're generally subject to the ₹20 lakh ceiling that applies to private-sector staff, not the higher DCRG ceiling reserved for central government employees directly.

How Gratuity Interacts With Your Full and Final Settlement

Gratuity is usually one line item in a broader full and final (F&F) settlement, alongside unpaid salary, leave encashment, bonus, and any reimbursements due. Under Section 7(3) of the Payment of Gratuity Act, the employer is required to determine and pay the gratuity amount within 30 days of it becoming payable, regardless of when the rest of the F&F settlement is processed.

If this 30-day window is missed, Section 7(3A) requires the employer to pay simple interest on the delayed amount, at a rate notified by the Central Government. That rate has stood at 10% per annum since a notification issued on 1 October 1987 (S.O. 873(E)), and courts have upheld it as the applicable rate in more recent disputes. The only exception is where the delay is the employee's own fault and the employer has written permission from the Controlling Authority to withhold payment on that basis.

Employees going through an F&F process are generally within their rights to ask their employer for a separate breakup showing the gratuity calculation, since it doesn't always appear clearly on a combined settlement statement.

Nomination also plays a role here that's easy to overlook while a job is still active. Every eligible employee is expected to file a nomination under the Act (typically on Form F) naming who should receive the gratuity if the employee dies before it's paid out. Without a valid nomination on record, gratuity following a death is paid to the legal heirs instead, which can slow the settlement down while entitlement is established. Employees who've changed their family situation since joining a company, through marriage or otherwise, are generally better off updating this nomination rather than assuming an old one will still hold.

Gratuity is also treated as salary income for tax purposes once it's received, even though it's often paid out alongside components like leave encashment that follow different tax rules. Keeping the components of an F&F statement separate, rather than treating the total as a single lump sum, makes it easier to work out what portion is actually taxable.

Is This Right For You?

This guide covers the standard gratuity rule for most salaried employees in India. It isn't a substitute for professional advice if the employer disputes the calculation, if the employment was under an unusual contract structure, if the amount involved is large enough to have a meaningful tax impact, if the job involved cross-border postings, or if there's an active legal dispute over termination. In those situations, a labour lawyer or chartered accountant familiar with the specific facts is better placed to advise than a general explainer.

Conclusion

The gratuity rule in India rests on a fairly small number of moving parts: five years of continuous service as the standard eligibility bar, a 15/26 formula for most private-sector employees, a ₹20 lakh ceiling on both payment and tax exemption, and a separate, more generous set of rules for central government staff. The 2025 labour codes added a meaningful change for fixed-term workers, cutting their eligibility period down to one year. None of this replaces checking the actual numbers for a specific case, but it should make the fine print easier to read the next time it matters.

To work out an estimate based on your own salary and years of service, try the gratuity calculator. For a step-by-step walkthrough of how to use it, see the gratuity calculator guide.

FAQs

Does the 5-year gratuity rule apply to contract employees?

It depends on the type of contract. Employees on regular or permanent rolls still need five years of continuous service. Fixed-term employees, as newly defined under the labour codes effective 21 November 2025, qualify after just one year of continuous service. This shorter period applies specifically to recognised fixed-term contracts, not to casual, daily-wage, or informal work arrangements.

What is the current tax-exempt gratuity ceiling in India?

For private-sector and PSU employees covered under the Payment of Gratuity Act, the tax-exempt ceiling is ₹20 lakh under Section 10(10)(ii)/(iii) of the Income Tax Act, set by CBDT Notification No. 16/2019. Central government employees receive full tax exemption on their gratuity under Section 10(10)(i), with no upper limit on the exempted amount.

How is gratuity treated differently for government employees?

Central government employees receive a Death-cum-Retirement Gratuity under the CCS (Pension) Rules, 2021, calculated as one-fourth of monthly emoluments per completed six-month period of service, capped at ₹25 lakh since 1 January 2024. Private-sector employees use the 15/26 formula instead, capped at ₹20 lakh, with tax exemption limited to the same amount.

Can an employer refuse to pay gratuity for cause of termination?

Only on narrow statutory grounds. Under Section 4(6), an employer can forfeit gratuity, wholly or partly, if the employee caused loss through wilful damage to property, or if their service was terminated for violent or disorderly conduct or an offence involving moral turpitude committed during employment. A 2025 Supreme Court ruling confirmed employers don't need a prior criminal conviction to apply this, a disciplinary finding is enough.

Disclaimer: This article is for general informational purposes only and does not constitute financial, tax, or legal advice. Gratuity rules, rates, and limits can change, and individual eligibility depends on your specific employment and financial circumstances. Please verify current figures on official government sources and consult a qualified chartered accountant, tax advisor, or legal professional before making financial decisions.