Labour Codes 2025 explained: How the new gratuity formula impacts your monthly payout

The rollout of India’s four new labour codes has reignited interest in gratuity provisions, with reforms expected to deliver tangible gains for a wide section of the workforce. One of the most significant changes applies to fixed-term and contract employees, who will now qualify for gratuity after completing just one year of service — a sharp break from the earlier five-year requirement. The shift is widely seen as a step towards strengthening financial security for India’s growing base of non-permanent workers.

From November 21, 2025, gratuity rules for salaried employees have formally changed, reshaping both eligibility and the way payouts are calculated. The revised framework is expected to raise statutory gratuity amounts for many employees, particularly those in the Rs 6 lakh, rs 12 lakh and rs 24 lakh annual CTC brackets, as the law broadens the definition of “wages” and introduces a stricter 50 per cent rule for salary components.

Under the updated regime, permanent employees will continue to qualify for gratuity after five years of continuous service.

The key shift, however, applies to fixed-term staff. They will now be entitled to gratuity on a pro-rata basis even if their contract ends before completing five years. While eligibility timelines differ, the formula used to compute gratuity remains the same for both permanent and fixed-term employees.

“Until now, gratuity was calculated on an employee’s last drawn basic pay and dearness allowance, and was payable only after completing five years of continuous service,” said CA Niyati Shah, Vertical Head – Personal Tax at 1 Finance.

The new labour code introduces two major reforms. First, fixed-term and contract workers will qualify for gratuity after just one year, significantly widening social security coverage. Second, the definition of wages for gratuity has been expanded. If allowances excluded from wages exceed 50 per cent of total remuneration, the excess must be added back while calculating statutory benefits. This effectively increases the salary base on which gratuity is computed, resulting in higher payouts.

How gratuity is now calculated

Under the new framework, gratuity continues to be computed using the formula:

(Last drawn remuneration × 50% × 15 × completed years of service) ÷ 26

What changes is the remuneration figure used in this formula. With wages now aligned closer to 50 per cent of CTC, the gratuity base becomes substantially higher than under the earlier structure, where calculations were typically linked to basic pay alone.

The impact is best understood through a simple comparison of annual accruals under the old and new structures.

These numbers show that aligning wages to 50 per cent of CTC can lift annual gratuity accrual by nearly 65–70 per cent across income levels, significantly improving end-of-service benefits for employees.

What has changed under the Labour Codes 2025

The most far-reaching reform lies in how “wages” are defined. Earlier, gratuity was calculated mainly on basic salary and dearness allowance. Under the new law, wages now include most elements of remuneration, with only a limited list of exclusions. The 50 per cent rule ensures companies cannot heavily rely on allowances to reduce statutory payouts — if such allowances exceed half of total pay, the excess is added back for gratuity and other social security benefits.

Employers are now expected to revisit compensation structures to align with this broader wage definition. Many organisations may rebalance salary packages by increasing the basic component that could raise long-term statutory costs but also deliver stronger retirement benefits and greater pay transparency.