The bigger impact of cuts in basic salary: Your gratuity may take a hit

Lawyers say going strictly by the provisions of The Payment of Gratuity Act, the amount payable would be based on last-drawn salary
The salary cuts that have taken place will have a bigger impact on employees set to retire shortly. Besides taking a hit on their current income, they may also take home a smaller amount as gratuity — the retirement benefit given to employees who have rendered minimum of five years of service to an employer.

For each year of service completed (or part thereof in excess of six months), the employer pays gratuity at the rate of 15 days’ wages based on the rate of wages last drawn by the employee. Here, 15 days’ wages are calculated by dividing the monthly rate of wages last drawn by him by 26 and multiplying the quotient by 15. The formula is: Monthly wage x number of years of service x 15/26.

“While the term ‘last-drawn wages’ is not defined in this Act, the term ‘wages’ for computing gratuity includes last-drawn basic and dearness allowance (DA),” says Suresh Surana, founder, RSM India.
Explaining further, Anil Lobo, independent consultant-retirement & benefits, says: “If a company adheres to the Act, the gratuity amount is capped at Rs 20 lakh. But it can pay more. 


Any amount above Rs 20 lakh will be taxable.”

The impact of a salary cut will depend on the components that have been reduced. “An employee’s gratuity will be affected if his basic salary and DA have been cut. But if components outside these have been cut, there will be no impact,” says Deepesh Raghaw, founder, PersonalFinancePlan, a Securities and Exchange Board of India-registered investment advisor.

Experts say companies have mostly steered clear of slashing the basic salary. “Typically, the salary cut is from allowances or variable pay and the basic is not affected,” says Preeti Chandrashekhar, India business leader–health and wealth, Mercer.
What can employees do about this? They can speak to their employer, so that their basic is not touched. Beyond that, it is up to employers. “Since this is an unprecedented crisis, companies should take a paternalistic view. As a goodwill gesture for an employee’s long years of service, they should consider the pre-Covid salary for the purpose of gratuity calculation,” says Lobo.

Lawyers say going strictly by the provisions of The Payment of Gratuity Act, the amount payable would be based on last-drawn salary. “The object of paying gratuity is to enable the employee to enjoy social security and a decent standard of living after retirement. Also, the reason the last-drawn salary has been prescribed for computing gratuity is that it is typically the highest salary drawn by an employee in his normal course of employment,” says Nand Kishore, partner, DSK Legal.
He adds that in the absence of clarification or specific legislation, employers are likely to stick to the last-drawn salary for computation of gratuity. Anuj Shah, chief financial planner, Wealth360, adds: “Gratuity is an ex-gratia payment. If a company wishes to pay more than what is prescribed by the law, that is possible.”  

While this is a setback, it is unlikely to affect a retiree’s retirement planning. “Roughly speaking, a person gets 15-day basic (assuming he has no DA) for each year of work done. If he has worked for 20 years, he will get 10 months of basic as gratuity. If his basic has been cut by, say, 20 per cent, he will lose two months of basic. It is a hit, but it won’t affect his retirement planning per se if he has been saving diligently,” says Raghaw. 

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