Naya naya corporate syllabus nikla hai…
The New Labour Codes that were introduced in India will have a profound impact on both the way in which salaries are calculated and the way in which retirement benefits (in this case gratuity) are determined.
The big picture is the promise of greater long-term savings through a changed method to structuring each employee’s ‘take home’ compensation; however, for some employees the very first by-product could actually be a reduction in ‘take home’ pay.
Ye kaisa boy math hai? Wait, it’s about to make sense.
Below is the rationale as to what is changing, why that change is important, and how it will impact you as an employer (code for corporate majdoor).
50% Wage Rule and Gratuity Impact: How Higher Basic Salary Boosts Retirement Benefits
The most significant change involves the definition of what constitutes “wages”.
Under the new rules, basic salary, dearness allowance (DA) and retaining allowance together must comprise a minimum of 50% of an employee’s total cost-to-company (CTC). In the past, in many cases, companies would keep basic pay lower (typically in the range of 25-40%), offsetting the lower amount with either a higher number of or larger dollar amounts for allowances.
But new labour laws said, “not anymore!” So no, now companies do not have this kinda flexibility anymore.
To the extent that allowances, even if combined with the basic and DA, exceed 50% of CTC, the excess will now also be treated as ‘wages’ for the purposes of remuneration calculations. So there will be reduced flexibility and BIG consistency across industries when it comes to the way salary structures are established.
Gratuity Calculation and Eligibility Rules: Formula, Fixed-Term Employee Benefits and Key Changes
Gratuity payments are calculated based on the last salary received by the employee (i.e., basic salary plus DA). With the increased amount of basic pay due to this higher salary, the base used for calculating gratuity will likewise increase.
This will lead to an increase in the minimum amount of gratuity that employees will be entitled to receive at termination regardless of the circumstances surrounding their termination (i.e., retirement, resignation, etc.).
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For example, if an employee’s basic salary increases from ₹30,000 to ₹50,000 due to restructuring, their gratuity payout over time can increase greatly, by as much as 60–70% in some cases.
No, it’s not a typo, this is a healthy income system falling into place in my India.
The way gratuity is calculated is the same; however, the means by which it is calculated have changed (higher wage factor).
If covered under the Payment of Gratuity Act, 1972:
Gratuity = (15 x Last Basic Salary + DA x Years of Service) / 26
*The basis of last salary shall include both basic salary and Dearness Allowance.
Any employee who works more than 6 months at the Company and who is retiring will have their length of service calculated, rounded to whole years.
For Example:
Last salary of the employee- ₹75000
Length of employment- 12 years
Gratuity Calculation: 15 x ₹75000 x 12 / 26 = ₹519230
If not covered under the Payment of Gratuity Act:
Gratuity = (15 x Average Salary of last 10 Months x # Years of Service) / 30
For gratuities calculated for employees not covered by the Act, a 10-month average salary is used to determine gratuities. Also, the division number is different.
Expanded Gratuity Qualifications: Who will now receive Gratuities?
The expansion to the Payment of Gratuity Act, 1972 has created new Gratuity eligibility definitions:
1. All Regular employees will qualify after 5 years of service.
2. All Fixed-term employees will qualify after 12 months of continuous service.
These expanded eligibility definitions represent a sea of changes for Contracted and Fixed-term employees.
a) The increase in the employee’s base salary also leads to an increase in their Provident Fund contributions because they are based on the employee’s base salary.
b) An employer provides the same amount into the employee’s Provident Fund, increasing the value of the employee’s retirement account.
As an example, consider a base salary of ₹30,000 per month increased to ₹50,000 per month:
• Current Provident Fund Contribution ₹3,600
• New Provident Fund Contribution ₹6,000
The current taxation and Provident Fund contributions that employees pay will decrease in the upcoming year in order to establish a much stronger foundation for the employee’s retirement account.
• PF Contributions Will Increase and Create a Higher Retirement Account
One of the obvious benefits of the new wage structure will be an increase in PF contributions to create a larger amount for the employee when they retire. Even though the employee will feel less of an impact in their take-home pay initially, the long-term impact should be substantial.
• Increased Contribution of Employers
• Faster Growth of PF
• Increased Compounding Effect
Old vs New Salary Structure Comparison: How Basic Pay, Allowances and PF Are Rebalanced
The new laws do not change the overall salary of an employee; rather, they simply change the way in which each part of the salary is distributed.
Take $100,000/month as the salary for example;
Old Structure
• Base Salary = $30,000
• Allowances = $70,000
• Includes Lower PF Contribution
• Higher Take-Home Pay.
New Structure
• Base Salary = $50,000
• Allowances = $50,000
• Includes Higher PF Contribution
• Lower Take-Home Pay.
Will Bonuses and Other Benefits Change?
Yes; indirectly.
Bonuses are a percentage of “wage,” therefore, if there is any increase to the base used to calculate bonuses, that would also increase the amount of bonuses; however, this will depend on how the company defines an employee’s eligibility for a bonus.
The larger implication is that all other employee benefits that are based on wages (including gratuities) will also increase because of the changes in the definition of the term “wages.”
Long-Term Impact of New Labour Laws
Due to the current wage structure, employers will expect to see an increase in:
• Gratuity liabilities.
• PF contributions.
• Greater amount of provisioning for financial statements.
This situation will cause companies to look at adjusting their compensation/bonus and increase salary levels/models.
Once the employers adjust their compensation structures, they can expect this situation to stabilise.
The intent behind the new labor codes is to change the focal point of salary conversations; it is moving from a short-term money in hand POV to long-term gains.