This is a guest post from Shilpa at Under the Rainbow. Though Shilpa claims that “she knows zilch about financial planning,” her guest posts never fail to prove the opposite.

Gratuity is a favor or gift, usually in the form of money, given by an employer to an employee in return for the employee’s loyal service. It is an employer’s way of thanking an employee for his loyalty. As per the Payment of Gratuity Act 1972, a company with ten or more employees should pay fifteen days’ salary (i.e. Basic + Dearness Allowance) to the employee on completion of a minimum of five years of uninterrupted service at the time of separation (by the way of resignation or retirement or death).

Gratuity up to Rs 350,000 is exempt from income tax. For a government employee, any amount is tax free. In case of death of the employee, the entire Gratuity is paid to the nominee without any tax deductions. An employer can also voluntarily choose to pay more Gratuity, but that amount would be taxable.

Here’s a simple example:

Mohan has resigned from ABC Pharmaceuticals after twenty years of continuous service. At that time, his Basic salary was Rs 22,000. His average number of work days per month was 22. The Gratuity payable would therefore be (Rs 22,000 / 22 days) * 15 days per year of service * 20 years of service = Rs 300,000.

I’d love to hear from your readers if they’re aware of any real examples — say if a family member or friend has received Gratuity.

Awareness Fridays is my initiative to spread awareness on topics relevant to personal finance — every Friday. I urge you to take some time off and absorb this information — it’s pretty useful. And, as always, do spread the word if you find this useful.