Labour codes update: What new gratuity rules mean for fixed-term and contract workers

The Central Government’s latest clarification on gratuity rules under the new labour codes has brought significant changes for India’s workforce, particularly fixed-term and contract employees. A recent Press Information Bureau (PIB) release outlines fresh norms on how wages are defined for computing social security benefits—including Provident Fund, gratuity, maternity benefits and bonuses—ensuring these calculations reflect a more accurate picture of an employee’s earnings.

Under the updated framework, wages now include basic pay, dearness allowance and retaining allowance. If allowances exceed 50% of total compensation, the excess will be added back to wages for calculating social security contributions. This shift is expected to raise benefit payouts over time, particularly for employees whose pay structures rely heavily on allowances.

Fixed-term and contract staff

A major reform concerns the qualifying period for gratuity. Under the new labour codes, fixed-term and contract employees become eligible for gratuity after completing just one year of continuous service. This is a major departure from the five-year requirement under the Payment of Gratuity Act, 1972, and aims to extend earlier access to retirement-linked benefits for workers in flexible or short-tenure roles.

The calculation method for gratuity itself remains unchanged. As prescribed in Section 4(2) of the Payment of Gratuity Act, the payout equals the last drawn monthly wage multiplied by 15/26 and then by the number of completed years of service.

A common question arising from the new rules concerns permanent employees. Legal experts clarify that the reduced one-year eligibility applies only to fixed-term and contract staff. Permanent employees must still complete five years of continuous service unless the period is cut short by death or disablement.

The new gratuity entitlement has been clarified as a benefit created specifically for fixed-term employees and not applicable to permanent staff, reaffirming that regular employees must still complete the standard five years of continuous service.

It has also been pointed out that gratuity forms part of an employee’s CTC because it represents a future financial obligation the employer is required to meet. Since the payment ultimately comes from the company’s resources, it is included in the overall compensation structure.

Gratuity and the CTC debate

The inclusion of gratuity as part of an employee’s cost to company (CTC) has also been revisited in light of the revisions. The new gratuity entitlement has been clarified as a benefit created specifically for fixed-term employees and not applicable to permanent staff, reaffirming that regular employees must still complete the standard five years of continuous service.

It has also been pointed out that gratuity forms part of an employee’s CTC because it represents a future financial obligation the employer is required to meet. Since the payment ultimately comes from the company’s resources, it is included in the overall compensation structure.

The PIB statement emphasised that the revised wage definition is designed to make benefit calculations “larger and fairer,” ensuring that employees receive entitlements aligned with their real income rather than reduced wage components.

Broader implications

Industry observers say the updated gratuity rules bring India closer to global standards, where shorter eligibility periods for fixed-term workers are common. These reforms are expected to improve financial security for contract-based employees and enhance workforce mobility, while maintaining stability for permanent staff.

Shantanu Rooj, Founder and CEO of TeamLease Edtech, said the Labour Codes represent one of the most significant shifts in India’s employment architecture in decades. Beyond gratuity and PF changes, he said the codes will push companies to adopt capability-led HR models that prioritise skilling, productivity and transparent mobility pathways.

Rooj added that industries with large frontline workforces—manufacturing, logistics, retail, construction and agro-processing—will increasingly need structured apprenticeship programmes, digital training systems and measurable skill frameworks. As India continues expanding its industrial and services footprint, he noted, the labour codes can help create a future-ready workforce that grows in skill quality rather than just numbers.

If implemented effectively, experts believe the reforms can help India build a more productive, formalised and skilled labour ecosystem—strengthening both employee welfare and enterprise competitiveness.