Group Gratuity Plans — Funding, Tax Benefits & IRDAI Norms

The statutory benefit

Gratuity is a lump sum an employer pays an employee in recognition of long service. It is a statutory benefit under the Code on Social Security, 2020, in force from 21 November 2025; earlier it was governed by the Payment of Gratuity Act, 1972.

It is generally payable after five years of continuous service. The Code changed this: a fixed-term employee qualifies after one year, with gratuity paid pro rata. Older material gives five years for every employee.

The formula

Gratuity is 15 days' wages for each completed year of service, with a month taken as 26 working days. As a formula: 15/26 × last drawn wages × completed years of service. A part-year of more than six months counts as a full year.

Wages has the meaning given in the Code, which adds back excluded allowances to the extent they exceed 50% of total remuneration. The amount an employer is required to pay is subject to a ceiling of ₹20 lakh. The ceiling is a notified figure and can be revised.

Funding through a group gratuity plan

Gratuity is a liability that grows every year as employees add service and their wages rise. An employer can pay it out of its own cash when it falls due, or fund it in advance. A group gratuity plan is the funded route: the employer contributes to a life insurer, which invests the contributions and pays out as gratuity falls due. Under IRDAI's Master Circular on Life Insurance Products of 12 June 2024, an insurer's group gratuity product also has to carry risk cover.

Funding changes where the money sits. Money in a funded plan is held in a gratuity fund, usually a trust that holds the group policy, apart from the employer's own assets. If the employer becomes insolvent, that money is generally outside its estate and available to pay gratuity. If the fund is smaller than the liability, the shortfall remains a claim against the employer.

Tax in the employee's hands

For a non-government employee, section 19 of the Income-tax Act, 2025 (section 10(10) of the 1961 Act) exempts gratuity up to the least of three amounts: the formula amount, ₹20 lakh, and the amount actually received. Gratuity of a Government employee is fully exempt.

Rules at a glance

Key points

• Gratuity is statutory under the Code on Social Security, 2020, in force from 21 November 2025.
• The general qualifying period is five years of continuous service; fixed-term employees qualify pro rata after one year.
• Formula: 15/26 × last drawn wages × completed years, with a part-year over six months counted as a year.
• The ceiling is ₹20 lakh.
• A group gratuity plan funds the liability in advance through a life insurer and has to carry risk cover.
• Funded money is held apart from the employer's assets; any shortfall remains a claim on the employer.
• For non-government employees the exemption is the least of the formula amount, ₹20 lakh and the amount received.

Common misunderstandings

• The divisor is 26, not 30: a month is taken as 26 working days.
• Five years is not the rule for everyone any more: fixed-term employees qualify pro rata after one year.
• Ten years and seven months is not ten years: a part-year over six months counts as a full year.
• A funded plan does not end the employer's obligation: if the fund falls short, the shortfall remains a claim against the employer.
• The Payment of Gratuity Act, 1972 is not the current law: gratuity now sits under the Code on Social Security, 2020.

Questions people ask