Gratuity: The Five-Year Rule, the 15/26 Formula and the ₹20 Lakh Exemption

Who is covered

The Payment of Gratuity Act 1972 applies to every factory, mine, plantation, port, railway company and to every shop or establishment employing ten or more persons on any day in the preceding twelve months.

Once the Act applies it continues to apply even if headcount later falls below ten. Employers outside its scope may still pay gratuity contractually, often on better terms.

The formula

Fifteen divided by twenty-six, multiplied by last drawn monthly basic plus dearness allowance, multiplied by completed years of service. Twenty-six is the assumed number of working days in a month; fifteen is the days of pay earned per year served.

Service of more than six months in the final year rounds up. Ten years and seven months counts as eleven; ten years and five months counts as ten.

The five-year threshold

Five years of continuous service is required, except where employment ends due to death or disablement, in which case gratuity is payable regardless of tenure and goes to the nominee or legal heir.

Some High Courts have accepted four years and two hundred and forty days in the fifth year as sufficient, relying on the definition of continuous service. That reading is not universally applied, and it is not safe to plan a resignation around it.

Tax and timing

For private-sector employees covered by the Act, gratuity is exempt under Section 10(10) up to twenty lakh rupees, and that is a lifetime ceiling across all employers rather than a per-employment one. Government employees receive theirs fully exempt.

Payment is due within thirty days of becoming payable. Beyond that, simple interest runs from the due date. Forfeiture is permitted only in narrow circumstances involving damage caused by the employee or termination for riotous conduct or an offence involving moral turpitude.

Frequently asked questions

### Do I get gratuity if I leave before five years?

Generally no. Five years of continuous service is the threshold, with an exception only for death or disablement. Some courts have accepted four years and two hundred and forty days in the fifth year, but that interpretation is not consistently applied.

### Is gratuity tax-free?

Up to twenty lakh rupees under Section 10(10) for private-sector employees covered by the Act, and that ceiling is a lifetime limit across all employers rather than per job. Amounts above it are taxable as salary.

### How is gratuity calculated for part years?

Service of more than six months in the final year rounds up to a full year; six months or less is ignored. So ten years and seven months is computed as eleven years, while ten years and five months is computed as ten.