Gratuity Explained: How Much You're Actually Entitled To After 5 Years

Gratuity is one of the least understood parts of an Indian salary structure — many employees don't realise it's a legal entitlement, not a discretionary bonus, and that there's an exact formula behind the number.

What is gratuity?

Gratuity is a lump-sum payment your employer is legally required to make when you leave the organisation, as a thank-you for long service. It's governed by the Payment of Gratuity Act, 1972, and applies to any factory, shop, or establishment with 10 or more employees. Unlike EPF, you don't contribute anything toward it from your salary — it's fully funded by your employer.

Who is eligible?

• Minimum 5 years of continuous service with the same employer
• The 5-year condition is waived in case of death or permanent disablement
• Courts have also accepted the "240-day rule" — completing 4 years and 240+ working days in the fifth year can satisfy the requirement for resignation cases
• New rule (effective November 2025): Fixed-term contract employees now become eligible for pro-rata gratuity after just 1 year of continuous service — they no longer need to wait 5 years

The gratuity formula

For employees covered under the Act:

Gratuity = (Last Drawn Basic + DA) × 15 × Years of Service ÷ 26

The 15 represents 15 days' wages per year of service; the 26 represents working days in a month. If your service period includes a part-year of more than 6 months, it's rounded up to the next full year.

Worked example

Rohan worked for 10 years and 7 months, with a last drawn Basic + DA of ₹75,000/month.

• 7 months rounds up, so years of service = 11
• Gratuity = (75,000 × 15 × 11) ÷ 26 = ₹4,76,442 (approximately)

How much of it is tax-free?

• Government employees: Entire gratuity amount is tax-free, no ceiling
• Private sector employees (covered under the Act): Exempt up to the least of: actual gratuity received, ₹20 lakh, or the 15/26 formula amount

Anything above ₹20 lakh gets added to your taxable salary income for that year, at your applicable slab rate. This exemption is also a lifetime cap across every employer you work for — if you already claimed ₹8 lakh exemption at a previous job, only ₹12 lakh of exemption remains available for any future gratuity you receive.

When gratuity gets paid

Your employer is required to pay gratuity within 30 days of it becoming due — typically your last working day. Payment must be a single lump sum; it can't be paid in installments.

What's changing under the Code on Social Security

The Code on Social Security, 2020 will eventually replace the Payment of Gratuity Act, and is expected to bring further changes to eligibility and the wage definition used in the formula. As of now, only the fixed-term employee provision has been notified into force; the rest of the Code hasn't been commenced yet, so the core 15/26 formula and ₹20 lakh cap continue to apply.

Calculate your own gratuity

Use Finzony's Gratuity Calculator to estimate your payout based on your actual salary and years of service.

This article is for educational purposes only and does not constitute tax or legal advice. Gratuity rules are subject to change as the Code on Social Security is notified — verify current provisions or consult a tax professional for your specific situation.