Group gratuity: how companies fund it, and how to choose

Three routes, and one correction to the name

A company can handle gratuity three ways. Pay as you go — set nothing aside, pay each leaver from cash, and get no tax deduction until the day you pay. Your own approved gratuity trust — an irrevocable trust that invests under a government-prescribed pattern, with or without a professional fund manager. A trust plus an insurer’s group gratuity scheme — the trust places its money in a fund-based group policy, the insurer runs the investment and settles claims, and a small life cover rides along. The third route is the common one.

Funding is not yet compulsory across India — the switch in the Code has not been flipped — but the tax deduction, the smoother cash flow and the state rules in Karnataka, Andhra Pradesh and Telangana mean most employers over ten people fund it anyway.

One correction to the phrase “gratuity insurance”: it does not insure the obligation. If the fund runs short, the company still owes every rupee. What you are buying is a disciplined, tax-efficient way to set the money aside.

What is group gratuity insurance?

Group gratuity insurance is a fund-based group life product that an employer’s gratuity trust buys to hold and grow the money set aside for gratuity. The insurer runs the fund, credits a declared interest rate or fund NAV, pays claims to the trust when people leave, and adds a small life cover on each member. It is a funding vehicle, not a transfer of the liability.

The word “insurance” causes more confusion than any other in this subject. Under IRDAI’s product rules, a group gratuity product must carry life cover with an explicit mortality charge — that is what makes it an insurance contract at all. But the cover is small, typically ₹1,000 to ₹10,000 per member, and its job is to pay the future-service gratuity when an employee dies in service. The gratuity the person has already earned comes out of the fund. If the fund is short, the employer tops it up. Section 57(5) of the Code on Social Security 2020 puts it bluntly: an employer whose premium or contribution is unpaid is liable to pay the gratuity due “forthwith”.

So the honest description is this: the trust is the funding structure; the insurer is its fund manager with a life-cover wrapper; the obligation stays yours. Understand that, and every other decision on this page gets easier.

How big is the liability, really?

Gratuity accrues at 15/26 of a month’s wages for every year worked — 4.81% of annual wages. At the new 50%-of-pay floor, that is about 2.4% of total payroll accruing every year, before anyone leaves. Twenty years of service earns almost a full year’s wages. And on 21 November 2025 the wage change lifted most companies’ liability by 11% to 67%, depending only on how the payslip was split.

The table most CFOs have not seen:

What that looks like for one illustrative company — 100 people, 40 of them under five years’ service, a basic of 40% of pay before the change:

Two things to notice. Ninety-five percent of that liability is already vested — it is owed, not hoped for. And the deductible past-service cap (₹3.39 crore) comfortably exceeds the accrued liability (₹2.44 crore), which is normal for a workforce of this shape: the tax rules rarely stop you catching up in one go.

Estimate your own liability in two minutes

Two ways in: quick — headcount and average wages in four service bands; precise — paste a census (wages, years, basic) and get the accrued liability, the vested share, next year’s accrual and the tax-deductible ceilings for your company. Everything runs in your browser; nothing is uploaded. The result is arithmetic at today’s wages — the starting point for the actuary, not a replacement for one.

Pay as you go: what “doing nothing” actually costs

Nothing in the Code obliges you to fund gratuity unless a state rule reaches you. But “unfunded” is not “free”. You lose the deduction until the day you pay, you carry the full liability in your accounts, and every senior exit becomes a cash event you did not schedule.

Four costs, in the order they bite:

1. Tax timing. A provision for gratuity is expressly not deductible (s.29(2)(a), Income-tax Act 2025). You deduct only the gratuity that actually becomes payable in the year. For a young workforce that can be fifteen or twenty years of carrying the expense in your accounts before the tax code recognises it.
2. Lumpy cash. Gratuity is paid in full, within thirty days, to whoever leaves — and people leave in clusters: a restructuring, an acquisition, a founding cohort ageing out together. A funded scheme turns that into a level annual contribution.
3. The balance sheet reads “unfunded”. Under Ind AS 19 the net defined benefit liability sits on the face of the balance sheet, with the funding arrangement disclosed. Auditors, lenders and acquirers read that note.
4. Insolvency. Money in an approved, irrevocable trust belongs to the trust, not to the company’s creditors. Money that was never set aside is simply a claim in the queue. In August 2026 the Supreme Court, in the Jet Airways liquidation, left open whether unpaid gratuity dues can be kept outside the liquidation estate where no separate fund was maintained. Employees of funded companies rarely have to ask that question.

And if you cannot pay when someone leaves

The clock is thirty days from the date gratuity falls due (s.56(3)). After that:

• Interest runs on the unpaid amount — simple interest at a rate the Government notifies, capped by the long-term deposit rate (s.56(4)). The rate in force before the Code was 10% a year; a fresh notification under the Code is awaited.
• Prosecution. Failing to pay gratuity an employee is entitled to is an offence: up to one year’s imprisonment, a fine up to ₹50,000, or both (s.133(g)). A repeat: two to three years and ₹3 lakh (s.134).
• Officers, not just the company. Under s.135, every person “directly in charge of, and responsible to, the company” at the time is deemed guilty along with the company — directors and officers included where consent, connivance or neglect is shown.
• Recovery. The competent authority issues a certificate to a Recovery Officer, who may attach and sell the establishment’s property, arrest and detain the employer, or appoint a receiver (s.129). For central-sphere employers the Recovery Officers are the Regional Labour Commissioners (Central), designated in May 2026.
• Karnataka, AP, Telangana, single-state: non-compliance with the compulsory insurance rules is a separate breach on top of all of the above.

Pay-as-you-go is a legitimate choice. It is not a cost-free one.

A trust plus an insurer’s group gratuity scheme

This is how most Indian employers fund gratuity. The approved trust remains the fund; it becomes the master policyholder of a group gratuity policy; the insurer holds the money in a policy account, credits interest or fund growth, adds life cover on each member, and pays the trust when someone leaves. You get the deduction and the smoothing without running a portfolio.

How the money moves

1. The company pays the contribution to the trust; the trust pays it to the insurer as premium into the policy account.
2. The insurer credits a declared interest rate (non-linked scheme) or allocates units at NAV (unit-linked scheme), and deducts the mortality charge for the life cover.
3. An employee leaves. The trustees certify the exit; the insurer pays the gratuity to the trust (the master policyholder), which pays the employee within the statutory 30 days.
4. An employee dies in service. The fund pays the accrued gratuity; the life cover pays the balance up to the sum assured, so the family is not short-changed by an early death.
5. Each year the actuary values the liability; the contribution is reset. Insurers set the minimum contribution by reference to the actuarial requirement (LIC’s terms say so in as many words) — you cannot over-fund a gratuity policy as an investment vehicle, and IRDAI requires the trustees to confirm the funding is needed under the accounting standard.

The two kinds of scheme

Who offers it

Most life insurers in India offer at least one group gratuity product. The table lists what insurers were publishing as at 20 September 2026, by product type. It is an inventory, not a ranking, and it is not a recommendation — Ethika is insurer-agnostic, and the right product for your trust depends on your census, your horizon and your states.

What the insurer will ask you for

• A census — for every employee: date of birth, date of joining, current monthly wages on the Code’s definition (basic + DA, or 50% of total pay if higher), employment type (permanent or fixed-term).
• The actuarial valuation — the past-service liability to be funded and the expected annual accrual, under Ind AS 19 or AS 15. Insurers set their minimum contribution at this figure.
• Your scheme rules — formula, ceiling, eligibility, retirement age, and the exit conditions, including what counts as a bulk exit.
• The trust deed, trustee details, and the Form 188 approval or the pending application.
• If you are moving from another insurer or a self-managed trust, the existing fund value.

GST

GST at 18% applies to the charges — the mortality charge, fund management and administration charges, and any surrender charge — not to the contribution itself, which goes into the fund. The September 2025 exemption that made individual life and health policies GST-free did not extend to group products; group policies of every kind, gratuity schemes included, stay at 18% on their charges. The 57th GST Council, originally slated for 12 September 2026, has been moved to 7 October 2026 with no insurance item on its published agenda.

What are the tax benefits of funding gratuity?

Funding converts a non-deductible provision into a deductible payment, lets the fund’s own earnings compound tax-free, and moves the deduction forward from “when the employee leaves” to “when you pay the fund” — capped at 8⅓% of salary a year, plus 8⅓% per year of past service for the catch-up. The employee’s tax position is unchanged.

A point worth stating because it is often got wrong: 8⅓% is a deduction ceiling, not a funding target. The statutory benefit accrues at 4.81% of annual wages; the cap is exactly one month’s salary and about 1.73 times the accrual. The actuary’s number decides how much to fund. The cap decides how much of it is deductible this year.

What happens if we don’t fund it?

Legally, nothing — until an employee leaves and you cannot pay within thirty days. Financially, you forgo the deduction, carry the liability unfunded on the balance sheet, and expose the company to lumpy cash calls. In Karnataka, Andhra Pradesh and Telangana, for a single-state employer, you are also in breach of state rules.

The last row is the one to sit with. The question is not whether the liability exists — it does, and it grew last November. The question is only whether the money exists alongside it.

What does the accounting look like?

Under Ind AS 19 the liability is the defined benefit obligation — the present value of gratuity already earned, computed by the projected unit credit method and discounted at government-bond yields. Plan assets, at fair value, net against it. Funding does not reduce the obligation by a rupee; it creates the asset that offsets it.

Three things a CFO should know. The 21 November 2025 wage change was a plan amendment, so the resulting increase was past service cost — recognised immediately in the P&L (Ind AS 19 para 103), first in the quarter ended 31 December 2025; ICAI and the Institute of Actuaries of India both said so, and the actuaries’ body shut the door on parking it in other comprehensive income. Under AS 15, only the vested portion hits at once; the unvested part spreads to vesting.

An insurer policy counts as a plan asset only if it is a qualifying insurance policy — from an unrelated insurer, with proceeds usable only for plan benefits and out of reach of the company’s creditors. That is exactly what the irrevocable trust and Rule 324 deliver; a policy held directly by the company, outside a trust, may not qualify.

And the structural point nobody says aloud: the obligation is discounted at government-bond yields, while the fund earns the insurer’s declared rate. Those are different numbers. Even a fully funded scheme drifts into surplus or deficit from that spread alone — which is why the annual review is a comparison of two rates, not a glance at one.

How do we switch insurers, or move from a self-managed trust?

The trust surrenders or partially surrenders the existing policy and places the money with the new insurer. Expect a notice period of a few weeks to three months, a surrender charge if the policy is under three years old (typically 0.05% of the fund, capped at ₹5 lakh), and a market value adjustment on a complete surrender or a bulk exit. Merging or moving the fund itself needs the tax authority’s prior approval.

A move should be planned around the policy anniversary, after the three-year surrender-charge window where possible, and with the actuary’s valuation in hand so the new insurer’s minimum contribution is set correctly. The receiving insurer treats the incoming fund as an initial contribution; check the treatment of past-service credit and the life-cover terms for existing members before signing.

We are a GCC, or the Indian subsidiary of a foreign parent. What changes?

Nothing in the law, and quite a lot in the room. Gratuity is an Indian statutory obligation of the Indian entity: the Code, the tax rules and the state rules apply exactly as they do to a domestic company. What changes is who is deciding, what they are used to, and what the parent needs to report.

• The parent’s books. An Indian gratuity plan is a defined benefit plan under IFRS (IAS 19) and US GAAP (ASC 715). Ind AS 19 is converged with IAS 19, so the Indian valuation usually serves the group with a reconciliation; a US parent will want the ASC 715 view too, with its different treatment of past service cost and actuarial gains. Ask the actuary for both at once — it is cheaper than asking twice.
• The instinct to leave it unfunded. Many parents run unfunded plans at home and see no reason to fund in India. The Indian answer is the tax rule: a provision is not deductible, a contribution is (s.29(2)(a) and s.29(1)(c), Income-tax Act 2025). For a profitable GCC that is a real number every year, not a preference.
• The wage base. Global payroll structures with a thin Indian “basic” were exactly the structures the 21 November 2025 change hit hardest — the 50% floor. If the parent’s HRIS still computes gratuity on basic alone, the liability is understated. Payroll vendor certificates are worth asking for.
• Headcount and states. GCCs grow fast and open in Bengaluru and Hyderabad first — which puts single-state entities inside the Karnataka and Telangana compulsory-insurance rules, and multi-state ones outside them. Where you open your second office changes which rulebook reaches you.
• Transfers and secondments. Whether a secondee earns gratuity from the Indian entity turns on who the employer actually is under the secondment agreement — not on where the person sits. Decide it in the paperwork before the first secondee arrives, and treat continuity of service through intra-group transfers as a drafting point in the offer letter, not an afterthought.

What happens to gratuity in a merger, acquisition or business transfer?

The liability travels with the people. Where employees transfer with continuity of service — the normal position in a business transfer — the buyer inherits the whole past-service gratuity liability, priced into the deal or not. The fund can follow them: the trustees may transfer the relevant portion to the buyer’s approved fund, with the tax authority’s prior approval. Where service is broken, gratuity is paid out at the transfer and starts again.

• Continuity. Under the Industrial Disputes Act (s.25FF) — now s.73 of the Industrial Relations Code 2020 — workmen transferred to a new owner are entitled to notice and compensation as on retrenchment unless service is uninterrupted, terms are no less favourable, and the new employer is liable for retrenchment compensation on continuous service. Transfers are almost always structured to meet those conditions, so continuous service under s.54 of the Code carries every completed year across, and the buyer owes gratuity on all of them.
• The fund. An approved gratuity fund cannot simply be handed over. Its amalgamation with another fund, or the transfer of members’ balances to the buyer’s fund, needs the approving authority’s prior approval (Rule 326, Income-tax Rules 2026); the deed should allow for it — clause 16 of the specimen deed above.
• Due diligence. The buyer’s questions: the wage base used since 21 November 2025; the actuarial valuation and its past-service split; funded status and the insurer’s crediting history; any Karnataka, AP or Telangana exposure for single-state entities; and whether fixed-term staff have been counted since the Code. Unfunded and mis-based gratuity is one of the commonest working-capital adjustments in Indian mid-market deals.
• Slump sale vs share sale. In a share sale nothing changes for the employees or the fund — the company is the same employer. In a slump sale or asset transfer the employees move, and everything above applies.

Four jobs, so finance signs once, not four times

By law a broker represents you, not the insurer. On group gratuity we do four jobs — the number, the structure, the placement and the upkeep — so finance signs once, not four times.

Contributions can begin within weeks of the decision; the tax approval runs in parallel and, practitioners report, can take several months — which is why backdating matters.

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The words that appear in every quote

Approved gratuity fund

An irrevocable trust approved by the tax authority under Schedule XI Part B of the Income-tax Act 2025. Contributions are deductible; income is exempt; nothing returns to the employer.

Master policyholder

The trust (or employer) that holds the group policy. The insurer pays it, not the employee.

Policy account

The insurer’s running account of contributions plus credited interest less charges and claims, under a non-linked scheme.

Declared interest rate

The rate the insurer credits to the policy account, set at its discretion above the guaranteed floor.

Guaranteed floor

The minimum crediting rate the insurer promises for the policy term — 0.1% to 2% a year in current products.

Market value adjustment (MVA)

A reduction applied on a bulk exit or complete surrender when the market value of the underlying assets is below the policy account. Permitted by IRDAI only in those cases.

Bulk exit

Exits in a policy year exceeding 25% of the policy account at the start of the year, as defined in IRDAI’s master circular.

Defined benefit obligation (DBO)

The actuarial present value of gratuity already earned, by the projected unit credit method, discounted at government-bond yields. The number in your accounts.

Past service cost

The change in the DBO from a plan amendment. The 21 November 2025 wage change was one.

Initial contribution and ordinary annual contribution

The past-service catch-up, and the yearly contribution; deductible up to 8⅓% of salary per past year, and 8⅓% of salary per year, respectively.

Form 188

The application for approval of a gratuity (or superannuation) fund under the 2026 rules, filed through the e-filing portal where enabled.

Future service gratuity (insured)

In a group gratuity policy, the life cover that pays the gratuity an employee would have earned to normal retirement, less the accrued part, on death in service.

EDLI

Employees’ Deposit Linked Insurance: EPFO’s statutory life cover for PF members, funded by the employer’s 0.5% contribution; separate from gratuity and from any group term life policy.

Plan assets

Under Ind AS 19, the fund’s assets — including a qualifying insurance policy — that net against the defined benefit obligation on the balance sheet.

Appropriate Government

The Centre for multi-state establishments, mines, ports, banking, insurance and PSUs; otherwise the state. Decides which rulebook, and which compulsory-insurance rules, reach you.

Section 57

The Code’s compulsory-insurance provision. In force as text; operative only from a notified date, which has not come.