Gratuity is a statutory lump-sum payment made by an employer to an eligible employee as recognition of continuous service, payable on retirement, resignation, superannuation, death, disablement, or expiry of a fixed-term contract under the Code on Social Security, 2020.

In 2026, gratuity rules in India operate under the Labour Codes enforced from 21 November 2025. The changes primarily affect fixed-term employees, the definition of wages used for calculation, and compliance obligations for employers. Permanent employees largely retain the five-year service requirement, while the 50% wage rule and clearer fixed-term provisions have increased both eligibility scope and potential payout amounts for many organisations. This guide explains eligibility, the calculation formula, taxation, key Labour Code updates, and practical compliance steps for HR teams.⁠

Key Changes Under the New Labour Codes (Effective 21 November 2025)

The Code on Social Security, 2020 now governs gratuity (Chapter V, sections 53–58), replacing the earlier Payment of Gratuity Act, 1972 framework for most purposes.

Major updates include:

• Fixed-term employees (FTEs) directly engaged by the employer become eligible after completing one year of service under the contract, with pro-rata calculation.
• “Wages” for gratuity must include basic pay, dearness allowance and retaining allowance, and must constitute at least 50% of total remuneration. Excess allowances above the 50% threshold are added back to the wage base.
• Rules apply prospectively from 21 November 2025. Gratuity payable on exits on or after that date is computed using last-drawn wages under the new definition.
• Payment must generally be made within 30 days of the date it becomes due.
• The statutory ceiling remains ₹20 lakh (higher amounts possible under better contractual terms).⁠

Data points:

• The Labour Ministry has clarified that gratuity under the revised framework applies with effect from 21 November 2025.
• The one-year rule is specific to fixed-term employees and does not reduce the five-year requirement for permanent staff (except death or disablement).
• The 50% wage floor frequently raises the calculation base compared with older structures that kept basic pay lower.

Eligibility Rules in 2026

Permanent / regular employees

Continuous service of five years is still required for gratuity on resignation, retirement or superannuation. The five-year condition is waived in cases of death or disablement due to accident or disease. A period exceeding six months is commonly treated as a full year for calculation purposes.

Fixed-term employees (FTEs)

Direct fixed-term employees who complete one year of service under the contract are eligible on a pro-rata basis when the contract expires or on other qualifying events. Contracts shorter than one year (for example, a pure 11-month engagement) generally do not qualify.

Contract labour

Liability for gratuity of contract workers ordinarily rests with the contractor (as employer) after the applicable continuous service period. Principal employers should verify contractual arrangements and maintain oversight.

Best for whom:

• HR teams in companies using fixed-term contracts need updated eligibility tracking.
• Organisations with high contract or project-based hiring must distinguish direct FTEs from pure contract labour.
• Permanent staff continue under the familiar five-year rule with the new wage definition applying to post-21 November 2025 exits.

Clear recommendation: Maintain separate service records and contract-type flags so eligibility is verified accurately at the time of exit.

Gratuity Calculation Formula

The core formula remains:

Gratuity=Last drawn monthly wages×1526×Completed years of service\text{Gratuity} = \text{Last drawn monthly wages} \times \frac{15}{26} \times \text{Completed years of service}Gratuity=Last drawn monthly wages×2615​×Completed years of service

• “Wages” follow the new Code definition (basic + DA + retaining allowance, subject to the 50% rule).
• For fixed-term employees and certain other cases, calculation is pro-rata.
• Piece-rated and seasonal employees have specific averaging rules.
• Maximum statutory amount notified is currently ₹20 lakh.

Because the wage base is often higher under the 50% rule, many employees see larger payouts even though the mathematical formula itself is unchanged.

Decision Table: Old vs New Gratuity Framework

Aspect	Pre-21 Nov 2025 (Payment of Gratuity Act)	From 21 Nov 2025 (Code on Social Security)	Impact
Permanent employee eligibility	5 years continuous service	Still 5 years (exceptions for death/disablement)	Limited change
Fixed-term employee eligibility	Generally 5 years	1 year of service under contract (pro-rata)	Significant expansion
Wage base	Typically Basic + DA (employer-defined)	Basic + DA + retaining allowance ≥ 50% of total remuneration	Often higher payout
11-month pure fixed-term	Usually ineligible	Generally ineligible	No change
Payment timeline	Within 30 days	Within 30 days	Unchanged
Statutory ceiling	₹20 lakh	₹20 lakh (better terms allowed)	Unchanged

Best for whom: Finance and HR teams recalculating provisions and updating CTC structures.

Recommendation: Revisit salary structures so that the wage component meets the 50% threshold and accurately reflects gratuity liability.

Taxation of Gratuity in 2026

For private-sector employees covered under the gratuity provisions, the amount is exempt under Section 10(10) of the Income Tax Act up to the least of:

• Actual gratuity received,
• ₹20 lakh, or
• The amount calculated under the statutory formula.

Any excess is taxable as salary. The ₹20 lakh limit is a lifetime cumulative ceiling across employers for non-government employees. Government employees generally enjoy full exemption without a monetary cap.

Gratuity received while still in service (not on exit) is usually fully taxable. Proper documentation of the calculation and exemption claim is essential for both employer and employee.

Compliance, Documentation and HR Processes

Employers become liable once an employee meets the eligibility criteria and a triggering event occurs (resignation, retirement, contract expiry, death, etc.).

Key compliance actions:

• Maintain accurate service records, nomination forms, and wage components used for calculation.
• Verify eligibility (service length, employment type, continuous service) before processing.
• Calculate using last-drawn wages under the applicable definition.
• Pay within 30 days of the due date; delays can attract interest and penalties.
• Include gratuity in the full-and-final settlement / exit checklist.
• Retain calculation sheets, payment proofs, and nominee details.

Decision Table: HR Action by Scenario

Scenario	Eligibility Check	Calculation Approach	Payment Priority	Records to Retain
Permanent employee resigns after 5+ years	Confirm continuous service	Full formula on last wages	Within 30 days	Service history, nomination, calculation
Fixed-term contract ends after 1+ year	Confirm direct FTE status and 1-year service	Pro-rata	Within 30 days	Contract + attendance
Employee resigns after 11 months (FTE)	Usually not eligible	N/A	N/A	Contract proof
Death / disablement	No minimum service	Pro-rata or full as applicable	Priority payment	Nominee documents
Contract labour exit	Check contractor liability	As per applicable rules	Coordinate with contractor	Agreement copies

Best for whom: HR and payroll teams handling exits and multi-type workforces.

Clear recommendation: Build gratuity verification into every exit workflow and keep digital records for audit readiness.

SalaryBox provides practical payroll and compliance support that helps growing companies track service periods, wage components and statutory calculations more efficiently.

Practical Recommendations for 2026

1. Update employee classification (permanent vs direct fixed-term vs contract labour) in HRIS records.
2. Review salary structures against the 50% wage rule to avoid under-provisioning.
3. Train HR and payroll staff on the one-year FTE rule and pro-rata calculations.
4. Ensure nomination forms are current and exit checklists include gratuity.
5. Pay within the 30-day window and document every step.
6. Monitor state-specific rules where the appropriate government differs.

Accurate application of the 2026 gratuity rules protects both employers and employees, reduces dispute risk, and supports smoother exits under the Labour Codes.

Frequently Asked Questions

What is included in a gratuity compliance checklist?

A practical gratuity compliance checklist covers: confirmation of establishment coverage (generally 10+ employees), accurate classification of employees as permanent, direct fixed-term or contract labour, up-to-date service and attendance records, current nomination forms, correct identification of wage components under the 50% rule, eligibility verification at exit, accurate calculation using the statutory formula or pro-rata method, payment within 30 days, maintenance of calculation sheets and payment proofs, and retention of documents for the required period. It should also include periodic review of salary structures and training of HR/payroll staff on the post-21 November 2025 rules. Including these items reduces the risk of under-payment, delayed settlement or compliance notices. Regular internal audits of the checklist help keep processes current with any further clarifications issued by the Labour Ministry.

What records should HR maintain for gratuity compliance?

HR should maintain continuous service records, appointment letters and contract type (permanent or fixed-term), attendance or days worked (especially relevant for the one-year FTE threshold), nomination forms, salary structures showing basic, DA and other components, calculation worksheets for each claim, payment advice or bank transfer proofs, and correspondence related to claims or disputes. For contract labour, copies of the principal-employer–contractor agreement and any liability clauses are important. Digital, searchable records linked to employee codes make verification faster at the time of exit and support audits. Retention periods should follow applicable labour and company policy requirements.

When does an employer become liable to pay gratuity?

An employer becomes liable when an eligible employee experiences a triggering event—superannuation, retirement, resignation after meeting the service requirement, death, disablement, or expiry of a qualifying fixed-term contract—and the statutory conditions are satisfied. For permanent employees this is normally after five years of continuous service; for direct fixed-term employees it is after one year under the contract. Liability arises on the date the amount becomes payable, and payment is required within 30 days thereafter.

What documents are required for gratuity processing?

Typical documents include the employee’s service record or experience certificate, last drawn salary details, nomination form (or legal heir documents in case of death), calculation sheet, resignation or termination letter / contract expiry notice, identity and bank details for payment, and any internal approval notes. For fixed-term cases the original contract confirming the engagement period is essential. Keeping these in a standardised exit file speeds processing and provides an audit trail.

How should HR verify an employee’s gratuity eligibility?

Verify the employment category (permanent, direct fixed-term or contract), calculate continuous service length from joining date to exit date, confirm whether the five-year or one-year rule applies, check for exceptions such as death or disablement, and ensure the wage definition used matches the Code requirements effective from 21 November 2025. Cross-check attendance or days worked for borderline cases. Document the verification outcome before proceeding to calculation. 

What is the gratuity payment deadline for employers?

Employers are required to pay gratuity within 30 days from the date it becomes payable. The payable date is linked to the qualifying event (resignation acceptance, retirement date, contract end, etc.). Timely payment avoids interest liability and potential penalties. Building the 30-day timeline into the exit process helps ensure compliance.

What happens if an employer delays gratuity payment?

Delay beyond the 30-day period can attract simple interest on the unpaid amount and may expose the employer to penalties or recovery proceedings under the Code. Employees can approach the appropriate authority for recovery. Prompt payment and clear communication reduce the risk of disputes and additional cost.

How should HR calculate gratuity under the new Labour Codes?

Use the formula: last drawn monthly wages × 15/26 × completed years of service (or pro-rata for fixed-term and certain other cases). Apply the new wages definition (basic + DA + retaining allowance subject to the 50% rule) for exits on or after 21 November 2025. Document the wage components used and the service period clearly.

Does the new Labour Code change gratuity eligibility?

Yes, primarily for fixed-term employees, who become eligible after one year of service on a pro-rata basis. Permanent employees continue under the five-year continuous service rule, with the usual exceptions for death and disablement. The change is prospective from 21 November 2025.

What is the gratuity rule for fixed-term employees in 2026?

Direct fixed-term employees who complete one year of service under the contract are eligible for pro-rata gratuity on contract expiry or other qualifying events. The calculation uses last-drawn wages under the new definition. This rule does not automatically extend to pure contract labour engaged through a contractor. 

Is an 11-month fixed-term employee eligible for gratuity?

Generally no. The one-year service requirement under the contract means a pure 11-month engagement does not meet the eligibility threshold for fixed-term employees. Employers should verify the exact contract wording and actual service rendered.

Does the one-year gratuity rule apply to contract workers?

The one-year rule is directed at fixed-term employees engaged directly by the employer. For contract labour, the contractor typically bears gratuity liability after the applicable continuous service period (commonly five years). Principal employers should review the commercial contract for clarity on responsibility.

Who is responsible for gratuity payment for contract labour?

Under the Code, the contractor as employer is generally responsible for paying gratuity after the required continuous service. Principal employers retain an interest in ensuring the contractor complies and may face practical or contractual exposure if arrangements are unclear. Clear agreements and monitoring are advisable.

Does the new wage definition affect gratuity calculation?

Yes. Wages now include basic pay, dearness allowance and retaining allowance and must form at least 50% of total remuneration. Any excess of other allowances above 50% is added back. This frequently increases the base used in the gratuity formula compared with older low-basic structures.

Which salary components are included in gratuity wages?

Included are basic pay, dearness allowance and retaining allowance (subject to the overall 50% rule). Other allowances are excluded only up to the point where the core wage components reach 50% of total remuneration; excess is added back. Overtime, certain statutory contributions and gratuity itself follow specific treatment under the Code definitions. Accurate mapping of each component is essential.

From what date do the new gratuity calculation rules apply?

The new framework applies with effect from 21 November 2025, the date of enforcement of the Labour Codes. Gratuity on qualifying exits on or after that date is calculated using last-drawn wages under the Code provisions. The Ministry has confirmed the rules are prospective.

How should HR process a gratuity claim?

Verify eligibility and employment type, obtain or confirm nomination details, calculate the amount using the correct wage base and service period, obtain internal approvals, process payment within 30 days, issue a calculation statement to the employee, and archive all supporting documents. Integrate the steps into the standard full-and-final settlement workflow.

What should HR do when an employee resigns after becoming eligible for gratuity?

Confirm service length and eligibility, calculate the amount on last-drawn wages, include it in the full-and-final settlement, pay within the statutory timeline, and update records. Communicate the calculation clearly to the departing employee to minimise queries.

How should gratuity be included in an employee’s exit process?

Treat gratuity as a mandatory checklist item in every exit: eligibility check → calculation → nomination verification → payment instruction → documentation. Align it with notice period, handover and final settlement so the 30-day clock is managed effectively.

Can HR automate gratuity calculations and records?

Yes. Modern payroll and HR systems can store service history, employment type, wage components and nomination data, apply the statutory formula or pro-rata logic, generate calculation sheets, and flag upcoming liabilities. Automation reduces manual error and supports consistent compliance, provided the system is configured for the post-21 November 2025 wage definition and FTE rules. Regular validation of the configuration remains necessary.