Gratuity calculation & definition of wages: What new labour codes mean for employees & organisations? Salary & benefits rules explained
New Labour Codes explained: After rolling out our new labour codes in last November 2025, the government has now published the draft rules, inviting public feedback within stipulated timelines up to February 14, 2026, and January 30, 2026 for the Industrial Relations Rules. These draft rules are important because they outline several key provisions that cover wage definitions for gratuity, overtime payout criteria, rest days, contract labour conditions, grievance redressal mechanisms, compliance obligations for firms, need for appointment letters, employee benefits, standing orders across sectors and the creation of a worker re-skilling fund. According to EY, in response to the rules, organizations should do a comprehensive review across HR, finance, payroll and legal functions, supported by impact assessments and policy revisions, to align with the new labour law framework.
Result of Rationalizing Labour Laws
New Labour Codes: What Do The Draft Rules Clarify?
The biggest clarification that comes from the release of the draft rules is on the definition of wages. The calculation of wages is important since this is what decides the gratuity amount received by individuals when leaving their jobs.According to the draft rules, wages cover:All remuneration whether by way of salaries, allowances or otherwise payable to a person employed. This includes: Basic pay, Dearness allowance, Retaining allowance, if any If the payments/allowances other than Basic pay, Dearness allowance and Retaining allowance exceed 50% or such percentage as notified of all remuneration, then amount exceeding 50% or such percentage as notified shall be added in the ‘Wages’What is the 50% rule for allowances?If the allowances and benefits together (except gratuity and retrenchment compensation) exceed 50% of the all remuneration, the excess amount shall be added back to wages. This added amount shall be treated as wages for statutory purposes. Leave encashment is not a part of allowances.Let’s understand the allowance rule with the help of an example:
- Total remuneration: Rs 76,000 per month
- Basic Pay + Dearness Allowance: Rs 20,000
- Allowances: Rs 40,000
- Other components (Gratuity and retrenchment compensation): Rs 16,000
- Total allowance paid: Rs 56,000
- The maximum allowance that is allowed for calculation of wages (50% of total remuneration) will be Rs 38,000
- The excess allowance over the 50% limit is Rs 2000. This Rs 2000 shall be added back to wages (Basic Pay + DA) for statutory compliances.
- Statutory calculations shall be made on revised wages: Rs 22,000
As per the Code on Social Security, 2020, gratuity has to be calculated based on the rate of “wages” last drawn by the employee. The rules clarify that for the purpose of determination of gratuity, the exclusions from ‘wages’ shall also include any payment payable on an annual basis, that is linked to performance or productivity of an employee or of the establishment in which he/she is employed and is not part of the remuneration payable under the terms of employment.
FAQs on New Labour Codes
Additionally, the following shall not form part of the ‘wages’ –
- Reimbursement of medical expenses;
- Stock option benefit or cash equivalent of stock award;
- Crèche allowance;
- Telephone and internet reimbursement; and
- Value of meal vouchers.
However, according to an EY analysis, the rules are yet to clarify if such components will be covered within the 50% limit on exclusions in the definition of ‘wages’. When is gratuity payable?Gratuity shall be payable in following events:
- On termination
- On superannuation (retirement due to age)
- On resignation
- On death or disablement due to accident or disease
- On expiration of a fixed-term employment contract
- On any other event notified by the Central Government
How is gratuity calculated?The calculation is simple: for every completed year of service or part thereof in excess of six months: 15 days’ wages per year (or such number as notified by Central Government) based on the rate of wages last drawn. The maximum gratuity is as notified by the central government which is currently Rs 20 lakh.Weekly offs or rest daysEmployees will be entitled to at least one ‘rest day’ per week. The employee shall not be required or allowed to work on the rest day unless they have a substituted rest day for a whole day on one of the working days in a week immediately before or after the rest day. No substitution can be made which will result in the employee working for more than ten days consecutively without a rest day for a whole day, the new rules say.Appointment letter rulesA letter of appointment has to be issued to all employees in an establishment within 3 months of the new labour rules coming into force.Overtime rules:Workers will be entitled to overtime pay, if certain work hour criteria are met. As per the Occupational Safety, Health and Working Conditions (OSHWC) Rules, if a worker works for more than 8 hours in any day as daily wager in an organisation, or for more than 48 hours in any week, they shall be entitled to wages at the rate of twice his rate of wages for the extra time and shall be paid at the end of each wage period. Accordingly, ‘workers’ shall be entitled to overtime for working beyond 48 hours in a week (without any daily working hour limit for applicability of overtime). Labour codes: New Benefit RulesWomen working after 7 PM: There are rules for employment of women in night shifts (i.e., after 7 PM and before 6 AM) – written consent of women employees is required and a pick and drop transport facility is mandatory. Medical medical examination: Every employer of a factory, dock, mine, building & other construction work has to ensure free of cost medical examination for every employee annually. This has to happen within 120 days from the commencement of the calendar year for those who have completed 40 years of age. An employer may avail facility for medical examination of the employee (s) under relevant rule of Social Security Code Rules, 2025 through Employees’ State Insurance Corporation (ESIC). Creche allowance: The employer and negotiating union/council or majority of employees of the establishment (in the absence of negotiating union/ council) can enter into agreements for provision of creche facility in the establishment and if not provided, then for pay creche allowance, which shall not be less than Rs 500 per month per child. Journey allowance to inter-state migrant workers: The employer has to pay a journey allowance to inter-state migrant workers once in 12 months for a to & fro journey from the place of employment to the place of residence. Worker re-skilling fund Any employer who retrenches a worker(s) has to transfer an amount equivalent to 15 days last drawn wages of such worker(s), within 10 days of such retrenchment, in an account to be maintained by the prescribed labour commissioner.The fund received from the employer can be electronically transferred by the labour commissioner to the account of the retrenched worker(s) within 45 days of retrenchment to enable the worker(s) to utilize the amount for re-skilling. Engagement of contract labour Employment of contract labour in core activities of an establishment is not allowed, subject to exceptions. As per the OSHWC Rules, the Joint Secretary to the Government of India, Ministry of Labour & Employment (‘MoLE’) is empowered to pass an order on the question whether an activity classifies as a core activity or not. Other conditions with respect to engagement of contract labour include:
- Principal employer to pay minimum bonus to contract labour where the contractor fails to do so.
- Principal employer to pay to the contractor the amount payable in respect of wages of employees. The condition to make such payment before the date of payment of wages to contract labour, as proposed in earlier draft central rules issued on 7 July 2020, is done away with.
- Annual increment of not less than 2% of wages to be given to workers regularly employed by the contractor (for them to be excluded from “contract labour” definition).
- Where a contractor wants to obtain a CLRA license for more than one State / whole of India, a common license may be applied for on the Shram Suvidha portal or designated portal of MoLE.
- Experience certificate to be issued to contract labour on demand giving details of the period, work performed, and experience gained in various fields.
Compliance requirements
- Nomination has to be obtained from employees in specific format for payment of dues in case of an employee’s death / whereabouts not being known
- Unified annual returns to be filed each year.
- Establishments have to maintain an employee register; attendance register-cum-muster roll; register of wages, overtime, advances, fines and deductions; register of women employees.
- Registers and records have to be preserved in original format for a period of 5 calendar years and they have to be made in English and Hindi or language understood by the majority of the persons employed.
Grievance redressal rulesEvery industrial establishment that employs 20 or more workers has to set up a grievance redressal committee that will look to resolve disputes that arise out of individual grievances. The OSHWC Rules introduce a provision for setting up a separate grievance redressal mechanism for contract labour for redressal of grievances related to health, working conditions and wages. The grievances may be submitted at the level of the principal employer. In addition, every establishment employing 500 or more workers has to constitute a safety committee in the prescribed manner and shall consist of an equal number of members representing the employer and the workers, which shall not exceed 20. What do the new rules mean for organizations: According to an EY analysis, while the rules pre-published by the government under labour codes have introduced some significant changes to promote ease of doing business and simplify compliance, it is essential for organizations to thoroughly assess the implications of these changes. It recommends the following points for organisations to take note of:
- Financial impact on account of gratuity and leave encashment: Assess the additional cost for organisations on account of enhanced gratuity and leave encashment payout basis the new definition of ‘wages’ and provisions of labour codes.
- Cost implications for other benefits under rules: Evaluate the financial impact of overtime after 48 hours of work in a week, on-site creche facility versus payment of creche allowance; payment of journey allowance; conducting annual medical examinations.
Way forward
- Checks for engagement of contract labour: Principal employer to conduct audits to verify that contractor aligns with prescribed requirements; To budget 2% annual hike and compliance with minimum wages; Restriction on engagement of contract labour for core activities, subject to exceptions.
- Operational changes for women working after 7 PM: Operational changes such as transport, security and facility access might be required to accommodate longer shifts and night shifts for women employees.
- SOPs for grievance redressal of on-roll employees and contract labour: Organizations to set up clear standing operating procedures to handle grievances raised and ensure disposal of complaints within prescribed timeline.
- Establish a robust compliance framework: Implement strong internal controls, conduct periodic diagnostic reviews, and ensure effective governance.
