If you’re wondering what India’s new gratuity rules mean for your salary or your business, the short answer is this: the Code on Social Security 2020 — now enforceable as of November 2025 — broadens who gets gratuity, changes how “wages” are defined for the calculation, and cuts employer payment timelines significantly. Both employees and HR teams need to understand what changed and what it costs to get it wrong.
What Is Gratuity and Who Qualifies?
Gratuity is a statutory lump-sum payment an employer must make to an employee on separation — retirement, resignation, termination, or death. It’s governed by the Payment of Gratuity Act 1972 for older establishments and, since November 2025, by the Code on Social Security 2020 for newer and transitioning ones. In practical terms, the rules are similar, but a few important changes are now in effect.
Basic Eligibility: 5 Years of Continuous Service
The baseline rule hasn’t changed: you need at least five years of continuous service with the same employer to receive gratuity. “Continuous” doesn’t mean you never took leave — approved leave, medical leave, layoff periods, and maternity leave all count toward your total service.
One nuance worth knowing: if your last year of service crosses the six-month mark, it rounds up. So, four years and seven months is treated as five years for gratuity purposes. Four years and five months is not.
There are two exceptions where the five-year rule doesn’t apply: death and permanent disablement. In both cases, gratuity becomes payable regardless of how long the employee worked.
The Big Change — Fixed-Term Employees Now Qualify After Just One Year
This is the most significant update in the new rules. Under the Code on Social Security 2020 (effective November 21, 2025), employees on fixed-term employment contracts are eligible for pro-rata gratuity after completing just one year of service. The formula is the same — 15 days’ wages per completed year — applied proportionally.
This matters enormously for sectors like IT services, BPO, manufacturing, and retail, where contract and project-based hiring is common. Employers who relied on contract structures to sidestep gratuity obligations need to revisit their payroll models immediately.
How Gratuity Is Calculated: The 15/26 Formula
The core formula for gratuity hasn’t changed:
Gratuity = (Last Drawn Basic + DA) × 15 × Years of Service ÷ 26
The “26” represents the number of working days assumed in a month (26 days, not 30, because Sundays are excluded). The “15” is 15 days of wages per year.
The maximum gratuity payable under Indian law is ₹20 lakh. Anything above that requires the employer to pay out of their own funds unless they’ve made specific contractual arrangements.
Worked Example 1: Regular Employee (5+ Years)
Suppose Kavitha has worked at a Chennai-based staffing firm for 8 years and 4 months. Her last drawn Basic + DA is ₹42,000 per month.
- Completed years: 8 (the 4 months don’t cross the 6-month threshold, so no rounding up)
- Gratuity = (42,000 × 15 × 8) ÷ 26
- = ₹5,040,000 ÷ 26
- = ₹1,93,846
Worked Example 2: Fixed-Term Employee (New Rule, 1 Year)
Suppose Ravi joined a logistics company on a 15-month contract at Basic + DA of ₹28,000 per month.
- Completed years: 1 (15 months rounds to 1 year; not enough to round to 2 since it’s under 18 months from a 12-month base)
- Gratuity = (28,000 × 15 × 1) ÷ 26
- = ₹4,20,000 ÷ 26
- = ₹16,154
Small amount — but previously Ravi would have received nothing. Multiplied across hundreds of contract staff, this changes the math for employers significantly.
The New Wage Definition: Why Your Basic Salary Matters More in 2026
This is the change that most HR professionals underestimated. Under the Code on Wages 2019, “wages” for the purpose of gratuity must account for at least 50 percent of an employee’s total remuneration. If the excluded components — HRA, special allowances, travel, etc. — together exceed 50 percent of total pay, the excess is added back to the wage base.
In plain terms: employers can no longer keep Basic + DA artificially low (say 20–25% of CTC) to reduce gratuity liability. If Basic + DA is only ₹18,000 out of a ₹60,000 CTC, the excess allowances over the 50% mark get added back to bring the wage base up to at least ₹30,000.
This single change can increase gratuity liability by 20–40% for companies that had aggressively structured CTCs. HR teams should audit every employment contract now rather than wait until an employee separates.
Employer Obligations in 2026
Pay Gratuity Within 30 Days
Once gratuity becomes payable, the employer has 30 days to make the payment. If they miss this window without a valid dispute, simple interest accrues at the rate prescribed under the law. Prolonged non-payment can trigger criminal prosecution.
Full & Final Settlement: Now Within Two Working Days
This is the tightest new deadline employers face. Under the Code on Wages, all dues — wages, earned leave encashment, and pending reimbursements — must be settled within two working days of an employee’s removal, dismissal, retrenchment, or resignation. This is a fundamental departure from the 30–45 day windows many companies operated under previously.
Gratuity itself (where applicable) follows the 30-day clock, but core wages must clear in two days.
Mandatory Appointment Letters
The new codes require employers to issue written appointment letters to every new hire — a provision often ignored for contract or daily-wage workers. Failure to comply carries financial penalties. This is particularly relevant for the staffing and placement industry.
Gratuity and Women Employees: Key Protections
Women in the Indian workforce often face disrupted service records — maternity leave, career breaks, or transitions to part-time roles. The rules specifically protect against this:
Maternity leave counts as continuous service. An employee who took 26 weeks of paid maternity leave does not lose those weeks from her gratuity calculation. The same applies to authorised medical leave and layoff periods where the employee was entitled to wages.
Night shift consent. The Code on Occupational Safety 2020 requires written consent from women employees for night-shift work, along with safe transport and facilities. This is relevant for employers in sectors like hospitality, healthcare, and IT services who hire through staffing firms.
Return-to-work flexibility. Employers with 50 or more employees must provide crèche facilities, and women can take up to four crèche visits per day during working hours. This directly supports workforce participation and reduces career breaks that affect gratuity eligibility.
At ePeople India, we match women candidates to employers who comply with these standards — and we don’t charge placement fees at any stage. If you’re a woman re-entering the workforce after a career break, these protections apply fully once you resume service.
Tax Treatment: How Much Gratuity Is Tax-Free?
For private sector employees, the tax-exempt limit under Section 10(10) of the Income Tax Act is ₹20 lakh. The exemption is the least of:
- Actual gratuity received
- ₹20 lakh (statutory ceiling)
- (15 × Last drawn salary × Completed years of service) ÷ 26
Anything above ₹20 lakh is taxable as salary income in the year of receipt. Government employees and those covered under the Payment of Gratuity Act who die or are permanently disabled receive full tax exemption with no ceiling.
Common Employer Mistakes — and How to Avoid Them
1. Keeping Basic + DA below 50% of CTC. With the new wage definition, this backfires. It doesn’t reduce gratuity; it creates compliance risk and potential penalties.
2. Treating contract staff as ineligible. Fixed-term employees now qualify after one year. If your workforce includes project-based hires, update your payroll model.
3. Missing the 30-day payment window. Interest accrues automatically. Disputes don’t pause the clock unless formally declared under the grievance mechanism.
4. Not issuing appointment letters. For every hire — permanent, fixed-term, or part-time — a written appointment letter is mandatory under the new codes.
5. Miscounting service for women on maternity leave. Maternity leave is counted, not excluded. Deducting it from the service record is a compliance violation.
FAQ
Q1: What is the gratuity formula under the new rules in 2026?
The formula is: (Last Drawn Basic + DA) × 15 × Completed Years of Service ÷ 26. The maximum payable is ₹20 lakh. Under the new wage definition, Basic + DA must be at least 50% of total CTC — employers who kept basic wages low will see their gratuity base recalculated upward.
Q2: Is five years of service still required to get gratuity in 2026?
For regular (permanent) employees, yes — five years remains the threshold. The key change is for fixed-term employees: they now qualify for pro-rata gratuity after completing just one year of service under the Code on Social Security 2020, which became enforceable in November 2025.
Q3: Does maternity leave count toward gratuity eligibility?
Yes. Approved maternity leave counts as continuous service for the purpose of gratuity calculations. A woman who took 26 weeks of maternity leave does not lose those months from her service record. Authorised medical leave and layoff periods also count.
Q4: What happens if an employer doesn’t pay gratuity within 30 days?
Simple interest accrues on the outstanding amount at the prescribed statutory rate. Prolonged non-payment — particularly where there’s no formal dispute — can result in criminal prosecution under the relevant code provisions. The employer cannot simply delay payment.
Q5: How does the new 50% wage rule affect gratuity calculation?
Under the Code on Wages 2019, wages used for gratuity must represent at least 50% of total CTC. If allowances and non-wage components exceed 50% of total pay, the excess is added back to the wage base. This means employers who structured CTCs with inflated allowances will have a higher gratuity base than before.
Q6: Can employers deduct gratuity from the employee’s final salary?
No. Gratuity is entirely the employer’s obligation — it cannot be deducted from the employee’s wages, withheld as a bond, or set off against any alleged dues. Attempting to deduct gratuity from final salary is a violation of the law and grounds for a formal complaint.
Post a Job or Find One — No Placement Fees
Whether you’re an employer reconfiguring your workforce under the new labour codes or a job seeker looking for a role with an employer who follows the rules, ePeople India is built around one principle: no placement fees at any stage.
👉 Employers: Post a Job and reach verified candidates across India. 👉 Job Seekers: Find Jobs and connect with employers who respect your statutory rights.
Written by Srikanth, Workforce Compliance Advisor at ePeople India. Srikanth covers India labour law, payroll compliance, and workforce policy for employers and job seekers across the country.
