03 August 2013
Sir, thanks for the reply. Is it possible for your to summarize these provisions/rules. Specially for a partnership firm having about 30 employees having chain of retail stores.
26 July 2024
**Gratuity Provisioning and Investment: A Comprehensive Guide**
### **1. Calculation of Gratuity and Its Accounting Treatment**
#### **Calculation of Gratuity:**
The calculation of gratuity is governed by the **Payment of Gratuity Act, 1972**. Here's how to calculate it:
**1.1. **Eligibility for Gratuity:** - Employees are eligible for gratuity if they have completed a minimum of 5 years of continuous service with the employer. - The Act applies to organizations with 10 or more employees.
**1.2. **Calculation Formula:** - The gratuity amount is calculated based on the following formula: \[ \text{Gratuity} = \text{Last Drawn Salary} \times \text{No. of Years of Service} \times \text{15/26} \] - **Last Drawn Salary** includes Basic Pay + Dearness Allowance. - **15/26** is used as per the Act where 15 days’ wages for every completed year of service are considered and wages are divided by 26 (number of working days in a month).
#### **Accounting Treatment:**
**1.3. **Provisions for Gratuity:** - **Provision Creation:** You need to create a provision for gratuity based on the estimated liability for all employees. This provision should be calculated as per actuarial valuation or a reasonable estimate.
**Journal Entry for Provision:** ```plaintext Dr. Employee Benefits Expense (Profit & Loss Account) Cr. Provision for Gratuity (Balance Sheet) ```
**1.4. **Payment of Gratuity:** - When gratuity is paid out to an employee, adjust the provision created.
**Journal Entry for Payment:** ```plaintext Dr. Provision for Gratuity (Balance Sheet) Cr. Bank/Cash (Balance Sheet) ```
### **2. Regulation of Investment of Gratuity Fund**
For managing and investing the gratuity fund, different rules and regulations apply based on the nature of the entity and the purpose of the fund. Here’s a summary:
#### **2.1. **Regulations Under the Gratuity Act:**
** **Fund Creation:** - The employer is required to create a Gratuity Fund if they are making provisions for gratuity under the Act. This fund can be set up in various forms, such as a trust or through an insurance company.
** **Investment Regulations:** - **Investment in Approved Securities:** The gratuity fund can be invested in securities approved by the Government. This includes investments in Government Bonds, Fixed Deposits with Banks, or any other instruments as per the approved list. - **Insurance:** Employers often invest gratuity funds in insurance policies with Life Insurance Companies, which provides both investment and insurance benefits.
#### **2.2. **Investment Regulations for Partnership Firms:**
** **Investment of Gratuity Fund:** - For a partnership firm, while there might not be a mandatory requirement to invest in specific securities under the Gratuity Act, it is advisable to ensure that the funds are invested prudently. - **Trust or Insurance:** Setting up a trust or investing in an insurance scheme for gratuity fund management is a common practice. This helps in ensuring that there are sufficient funds available when gratuity payments are due.
** **Investment Policy:** - **Investment in Fixed Income Securities:** Investing in low-risk, fixed-income securities like Government Bonds or Fixed Deposits ensures safety and liquidity of the fund. - **Insurance Policies:** Investing in insurance policies with life insurers ensures the availability of funds for gratuity payments and provides additional benefits like risk coverage.
### **Summary**
1. **Calculation of Gratuity:** - Calculate based on the formula: Last Drawn Salary × Years of Service × 15/26. - Create a provision in the books of accounts. - Record payments as they occur, adjusting the provision.
2. **Investment of Gratuity Fund:** - Employers should invest gratuity funds in approved securities or through insurance policies. - For a partnership firm, creating a trust or investing in insurance schemes is advisable for proper management and compliance.
By adhering to these guidelines, you ensure that the gratuity provisions are correctly accounted for and managed, while also complying with relevant regulations and ensuring that funds are available when needed.
CAclubindia
