The joy of huge increase in gratuity, or the new burden of tax? Understand what will be the effect on the pocket:

New Delhi. The new Labor Code which is going to be implemented in India has started a new debate among the employees. Along with simplifying the labor laws, the government has claimed to strengthen the social security of the employees. The biggest impact of this new change is going to be on your gratuity. While on one hand, there is expected to be a bumper increase in your retirement amount, on the other hand, the impact of income tax may reduce your happiness a bit.

Let us understand how your salary structure will change under the new rules and why you may have to pay more tax.

What is the new ‘50% rule’ and how will gratuity increase?

In the system till now, companies used to keep the ‘Basic Pay’ of your salary less and show more ‘Allowances’ (allowances) like HRA, Bonus and Special Allowance. Since gratuity was calculated only on basic salary + DA, the liability of the companies remained less.

According to the new Labor Code, the allowances of any employee cannot exceed 50% of his total salary. If the allowances cross the 50% limit, that excess amount will be added to the salary (Basic Pay). This will increase your ‘salary base’ for calculating gratuity, which directly means that the amount of gratuity received at the time of retirement will also increase significantly.

Expert opinion: Lack of coordination between gratuity and tax laws

Former Principal Commissioner of Income Tax O.P. According to Yadav, this change could prove to be a “double-edged sword”. The Labor Code has increased the scope of gratuity, but the old rules of Income Tax are still the same.

“There is a huge gap between the Social Security Code and the existing income tax rules. The labor law is increasing the salary base, but the tax exemption is still based on the old parameters (only basic + DA). This will give employees more money on paper, but a large part of it will go in tax.” – O.P. Yadav, former Chief Commissioner

Understand tax mathematics with an example

Suppose, according to the old rules, your gratuity was ₹ 10 lakh, which was completely tax free. After the new rules, due to change in salary structure, your gratuity increases to ₹ 15 lakh. Now the problem is that tax exemption will still be calculated on the old basis. In such a situation, ₹ 10 lakh will remain tax free, but the above ₹ 5 lakh can be added to your income and come under the tax net.

Which sectors will be affected the most?

This change will have the biggest impact on IT, financial services and corporate sector employees. The salary structure in these sectors is often quite flexible and the share of allowances is much higher than the basic pay. For long-serving employees, even a small increase in the salary base can make a difference of millions to the retirement fund.