When you retire or leave a job after years of service, gratuity is one of the most significant financial benefits you receive. It’s a token of appreciation from your employer for your loyalty & long-term contribution to the organization. But when it comes to taxes, the rules can get tricky. Many people wonder whether gratuity is taxable, how much is exempt, and which section of the Income Tax Act governs it.
Under the Income Tax Act, gratuity is covered mainly by Section 10(10). The tax treatment depends on whether you are a government employee, a non-government employee covered under the Payment of Gratuity Act, 1972, or a non-government employee not covered under the Act. The good news? Gratuity is now tax-exempt up to Rs. 20 lakh for eligible employees, offering substantial relief at the time of retirement.
What is Gratuity?
Gratuity is a lump-sum payment made by an employer to an employee in recognition of their long service, usually after at least five years of continuous employment. It is governed by the Payment of Gratuity Act, 1972, for most employees, but certain categories like government employees have separate provisions.
While it’s often seen as a retirement benefit, gratuity can also be paid in cases such as resignation (after completing the minimum service period) or in the unfortunate event of the employee’s death or disablement."
Gratuity Section in Income Tax – The Legal Basis
The taxation rules for gratuity are laid out under Section 10(10) of the Income Tax Act. The section clearly specifies exemption limits, calculation methods, and applicable conditions.
For government employees, gratuity received on retirement, resignation, or death is fully exempt from tax. For non-government employees covered under the Payment of Gratuity Act, the exemption limit is calculated based on the last drawn salary & years of service, but the maximum exemption is Rs. 20 lakh.
Tax Treatment – Who Gets What Benefit?
1. Government Employees
If you’re a central, state, or local government employee, gratuity received on retirement or death is fully exempt from tax. In this case, it is fully taxable as income in his hands only if the payment exceeds what is permissible under special rules (which rarely happens).
2. Non-Government Employees Covered Under the Act
For these employees, the exempt amount is the minimum of:
- 20 lakh,
- Actual gratuity received, or
- 15 days’ salary for every completed year of service (based on the last drawn salary).
Also Read: The Hidden Clause on Property Income You Might Miss
3. Non-Government Employees Not Covered Under the Act
Here, the calculation changes slightly:
- Half month’s average salary of the last 10 months for each completed year of service,"
- Actual gratuity received, or
- 20 lakh (whichever is lower).
Increased Exemption Limit – A Major Relief
Earlier, the exemption limit for gratuity was Rs. 10 lakh. However, the government revised this, and gratuity up to ₹20 lakhs is exempt from taxes for eligible employees. This change benefits high-salaried individuals, senior executives, and employees with long service tenures, ensuring they keep more of their retirement corpus.
The maximum exemption is Rs. 20 lakh, and any gratuity received beyond this limit becomes taxable & is included in your income under the head “Salaries.”
Is Gratuity Tax-Free for Everyone?
No, the exemption depends on your employment type and the applicable rules. For example, private sector employees may still have a portion of their gratuity taxable if it exceeds the Rs. 20 lakh limit or the calculated eligible exemption under the Income Tax rules.
Also, if you receive gratuity from multiple employers during your career, the exemption limit of Rs. 20 lakh is cumulative – it’s not available afresh for each employer.
How to Claim Gratuity Exemption in Income Tax Return
When filing your ITR, you must declare gratuity income under the “Salaries” section & claim exemption under Section 10(10). Keep the following in mind:
- Retain the gratuity payment slip or employer’s certificate.
- Calculate the exempt portion as per your category of employment.
- Enter the taxable portion in your ITR accurately to avoid notices.
Also Read: When TDS Defaults Turn Into Criminal Offences
Special Cases – Death or Disablement
If gratuity is paid to the legal heirs of an employee who has passed away or to an employee who becomes permanently disabled, the entire amount is exempt from tax, regardless of the Rs. 20 lakh limit. This provision ensures financial support during difficult times without the burden of taxation.
Practical Example
Let’s say Priya, a non-government employee covered under the Gratuity Act, retires after 25 years of service with a last drawn monthly salary of ₹80,000. She receives a gratuity of ₹22 lakh."
Exemption calculation:
- 15 days’ salary × 25 years = ₹10,00,000 (approx.),
- Actual gratuity received = ₹22,00,000,
- Statutory limit = ₹20,00,000.
The exempt amount will be the least of the above, i.e., ₹10 lakh. The remaining ₹12 lakh will be taxable.
Planning Your Gratuity for Maximum Tax Benefit
If you’re close to retirement, consider the following tips:
- Understand the category under which you fall (government, covered, or non-covered).
- Negotiate with your employer to structure gratuity payouts smartly to stay within exemption limits.
- Consult a tax advisor to optimize your retirement benefits.
Also Read: The TDS Default That Can Slash Your Tax Deductions
Why This Matters for Financial Planning
Gratuity often forms a significant portion of your retirement savings. Knowing that gratuity up to ₹20 lakhs is exempt from taxes helps you plan better and avoid surprises when filing taxes. Proper understanding of the gratuity section in income tax ensures you keep the maximum possible amount in your hands.
Retiring soon? Our experts at Callmyca.com can help you claim the maximum ₹20 lakh gratuity exemption and cut down your tax bill – before you miss out.
