Income Tax Act, 1961 offers benefits under Section 36(1)(v) and Section 10(25)(iv) to claim deduction and exemption for gratuity. Section 36(1)(v) allows a deduction to employers for their contribution towards an approved gratuity fund under an irrevocable trust exclusively for the benefit of their employees. Also, under section 10(25)(iv), the act exempts the income received by the trustees on behalf of their approved gratuity fund.
Therefore, for employers, an independent approved gratuity trust can assist them in gratuity related compliances. Here’s a complete guide as to how the gratuity trust can be formed, and what are the related compliances. Read on to understand!
Following is the process for the formation of employee gratuity trust:
The Approved Gratuity trust shall ensure the following compliances:
1) Income Tax Compliances: The Approved Gratuity Fund is a separate entity in the eyes of law. Therefore, as per the law, the audit of the Approved Gratuity trust under the Income Tax Act, 1961 shall be conducted each year and Income Tax Return shall be filed.
However, an alternative view on the same is also considered where the sole purpose of the Gratuity Fund is to provide for the employer’s gratuity liability towards its employees and upon this condition, the approval is granted by the Commissioner of Income Tax.
As per Section 139(1), income tax return shall be filed by:
• company or firm
• any other person whose income or the income in respect of which he is assessable exceeds the maximum amount not chargeable to tax.
As the income of the Approved Gratuity Fund is wholly exempt under Section 10(25)(iv), its total income does not exceed the maximum amount not chargeable to tax. Hence, the need to file Income Tax Return does not arise.
Further, a list of TDS exempt entities has been notified by the CBDT that enjoys ITR filing exemption and tax exemption in the view that their income is exempt under the Income Tax Act. These entities include:
(xi) Provident fund to which the Provident Funds Act, 1925 (19 of 1925) referred to in sub-clause (i), recognized provident fund referred to in sub-clause (ii), approved superannuation funds referred to in sub-clause (iii), approved gratuity fund referred to in sub-clause (iv) and funds referred to in sub-clause (v) of clause (25);
(xvii) New Pension System Trust referred to in clause (44).
Hence, from the analysis of the above provisions, it can be opined that an Approved Gratuity Trust shall not be liable to file a Return of Income.
2) Actuarial Report: For complying with the requirements of AS-15 and Ind AS-19, Actuarial Report under the Gratuity Plan shall be availed from the Actuary and an assessment of the annual contribution that shall be made by the company to avail of the deduction under Section 36(1)(v).
Following provisions in the Income Tax Act, 1961 leads to disallowance to the employer in case of a contribution made to the Approved Gratuity Fund:
In case of any assistance for formation and compliances related to your Approved Gratuity trust, feel free to connect with our professionals such as CA, CS, and other Gratuity Trust experts.
The gratuity becomes payable when an employee leaves the organization for any of the following reasons:
As per Rule 104 of the Income Tax Rules, the maximum deduction allowable for the initial contribution made by an employer with respect to the past services of the employee admitted to the benefit of the fund shall not exceed 8.33% of the employee’s salary for each year of his past service for the employer.
As per Rule 110 of the Income Tax Rules, any alteration in the constitution, conditions, rules or objects of the gratuity trust shall require prior approval of the Chief Commissioner or the Commissioner.
The contribution made by the employer is a capital receipt for the trust and therefore shall not be taxable. Further, the income received by the gratuity trust shall be exempt under section 10(25)(iv) of the Income Tax Act, 1961.
Contract workers, as well as temporary staffs, are eligible for receiving gratuity amounts till they are considered employees of the organization. However, apprentices are not eligible for receiving a gratuity.
The maximum amount of gratuity that is exempt from tax is Rs. 20 lakhs. This is the maximum tax- exempt gratuity amount that can be paid to the employees.
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