Accounting and presentation of GROUP GRATUITY FUND

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Querist : Anonymous

Querist : Anonymous (Querist)

23 May 2011 Please suggest me how group gratuity fund is accounted for in the books and is presented in Final Accounts.In reference to AS15 what is the correct accounting treatment.

CS Bijoy

CS Bijoy (Expert)
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23 May 2011 Accounting of Gratuity Liability

For a long time no provision was made for
gratuity liability and gratuity payments were
accounted on cash basis as and when
incurred. Auditors merely noted that gratuity
is accounted on cash basis and not on
accrual basis.
Even in tax laws there, was no special
provision for allowance of contributions paid
to the Gratuity Fund as an expense.

It was only in 1995 that old AS 15 was issued in
terms of which it became obligatory to provide
for gratuity liability on actuarial basis.
Now Revised Accounting Standard AS (15) is
prescribed by the Institute of Chartered
Accountants of India which was mandatory from
1-4-2006 but date of implementation was
relaxed and now it is mandatory with effect from
th
accounting periods commencing on or after 7
December 2006.
Before we deal with provisions of the new
standard, let us clearly understand difference
between “Provisioning” & “Funding”

• Accounting provision is only an entry in the
books of accounts and gratuity when paid is
allowed as an “expense” before arriving at Profit
or Loss for the year.
• Accounting provision is not allowed as
deductible expenditure in computation of tax
liability.
• However if you set up an Approved Gratuity
Fund recognized under Part of the Fourth
Schedule to the Income Tax Act, 1961, the
contribution to the Trust Fund is allowed as
deductible expenditure in terms of Section 36 (I)
(v) of the Income Tax Act, 1961.

Continued

Tax Treatment follows EET pattern
Contribution exempt
Interest Income tax-free
(build-up of the Fund)
Gratuity Benefit in excess of ½ month’s
salary for each year of service or
15 months’ salary (which is lower) subject
to maximum of Rs. 3,50,000/- is taxable.
Funding is not compulsory
Partial Funding is allowed.

E
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You can fund part of the liability and for the balance portion you
may make only accounting provision.
You may not Fund the liability and keep the Entire liability is
unfunded
Many employers are under the impression that if gratuity is
funded with LIC or any other insurers, there is no need for
actuarial valuation.
This is not correct. The Accounting Standards Board of Institute
of Chartered Accountants of India has clarified as under:
Q 12:
In case of defined benefit schemes covered under a Group
Gratuity or other defined benefit scheme with an insurance
company, where the actuarial risk and investment risk have not
been transferred from the enterprise, where an enterprise can
rely upon actuarial valuation certificate provided by the
insurance company or a separate certificate from a qualified
actuary is required to be obtained for determination of actuarial
liability

• In the case of defined benefit schemes covered under
Group Gratuity or other defined benefit scheme with
an insurance company where the actuarial risk and
investment risk have not been transferred from the
enterprise, the actuarial valuation certificate provided
by the insurance company can be relied upon by the
enterprise. However, the enterprise should ensure that
such actuarial valuation has been carried out by a
qualified actuary in accordance with AS 15 (revised
2005), the underlying data is accurate, the
assumptions are appropriate and the information
required for compliance with the disclosure
requirements of the Standard have been provided by
the insurance company. A separate certificate from
another qualified actuary is not necessary.

• Let us look at alternative scenarios when the
company has to adopt Revised Accounting
Standard AS (15).
Scenario I: Company was not making any
provision towards Gratuity Liability

Scenario II: Company was making provision
according to old standard AS (15) of 1995

Scenario III: company was having a Group
Gratuity Policy of LIC but the Fund accumulated
with LIC was not adequate compared to amount
of actuarial provision required by Revised
Accounting Standard AS (15).

Scenario I

• The liability arising on implementation of
Revised AS (15) is clearly prior period item
which should be debited to Profit & Loss
Account
Scenario II
Under old Accounting Standard Actuarial
Method was prescribed and as such
incremental liability arising on account of
switch-over from old standard to new standard
will be adjusted against Revenue Reserves /
Surplus as provided in the Accounting
Standard.

• However many employers do not include
employees for computation of liability if they
have not completed five years of service. This
interpretation was always wrong since gratuity
liability is incurred for every year of service and
not merely on vesting of liability after five years.
Any incremental liability arising on account of
inclusion of such employees will be treated as
prior year charge and debited to Profit & Loss
Account.

Scenario III

• LIC calculates contribution payable on actuarial
basis but does not follow Projected Unit Credit
Method as laid down by Revised AS (15); in
fact it follows Aggregate Method which results
in lower contribution and lower level of funding.
On adoption of Revised AS (15) incremental
liability will have to be adjusted against
Revenue Reserves / Surplus since old AS (15)
did not lay down Projected Unit Credit Method.

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