This is why your In-hand salary will reduce from April 2021
Understanding the major change brought in by The code on Wages, 2019.
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2021 is here. I'm sure after the year we've had, we all are excited about this new beginning. Let me humor you with an excerpt from a newspaper in 1920 during the Spanish Flu Pandemic.
Isn't it incredible how history repeats itself?
So coming back to the very bold headline that perhaps was the reason that you clicked to read this article. Nopes, we're not lying, it's true. We are not going to clickbait you, we ain't no Republikk.
Have a look at these headlines below and know that they both talk about the same law-
This might confuse you but understand that both headlines are true. This particular law will cause your take-home salary to decrease and your Provident fund and Gratuity to increase.
If you already understand the relationship between basic salary, In-hand salary, PF, and Gratuity, you can skip Part 1 and jump directly to Part 2 to understand how the new law affects you.
And if you're new to these concepts and confused with these headlines, read every word till the end. I promise you'll understand.
PART - 1 BASICS
When your employer says that your package is 12 Lakhs per year, what he means is that your gross salary is 12 Lakhs. However, this does not mean that you will get 1 lakh per month in your hand.
Let us understand some terms to make this clear.
Starting with CTC or Cost to Company which is basically what your company is spending to keep you as an employee. So, if your boss really liked your work this year and decides to give you a bonus of 50k then your CTC becomes Rs 12,50,000/-
CTC = Gross salary + Bonus
12,50,000 = 12,00,000 +50,000
Also,
CTC = Gross salary + [ EPF + Gratuity ]
The USA has a social security system to take care of the aged and disabled persons against the expenses of illnesses that may otherwise use up their savings. However, India does not have a system like this, nor is it possible with a population like ours.
In place of this, we have the Employee Provident Fund, where you and your employer contribute 12% of your Basic Salary each month towards your pension fund. The amount accumulates over a period of time and you get it as a lump sum upon retirement or at the end of the employment.
Gratuity, on the other hand, is a section of an employeeβs salary that is paid by the employer as a token of gratitude for the services of the employee. It is the sum paid to you on retirement or when you leave the organization. Once you complete 5 years in an organization, you become eligible to receive gratuity.
I know it can be confusing but these are basics. When youβll read Part 2 youβll be able to connect the concept with the actual news. It will all make sense :)
What is important here is that both EPF and Gratuity are calculated on your Basic salary.
But, what is Basic Salary? It is exactly what it is called - BASIC, without any additions (bonus/overtime) or deductions (Tax/allowance). It is fixed and does not vary.
Apart from this, the amount that a salaried employee receives from his employer to meet a particular type of expenditures above the basic salary is called Allowances.
Now letβs understand what the new law states ~
PART -2 Whatβs new?
The Code of Wages act, 2019 states that the allowances component of an employee's gross pay β or total cost to company (CTC) β cannot exceed 50 percent of the total compensation.
Simply put, the basic salary has to be 50 percent of the total pay.
What most private companies preferred to do was - set the basic part of the salary low which resulted in high in-hand salary for the employees. Their logic was if your Basic salary will be low then the amount deductions for EPF and Gratuity will be less (because they are calculated based on your basic salary) and thus there will be more in-hand salary for you, each month.
This will not be allowed under the new rules.
From the next financial year, employers are required to increase the basic pay of employees, thus reducing the in-hand salary.
Is it good or bad?
It depends.
This experience will vary from individual to individual.
On one hand, it can be said to be good because now more percentage of your salary will move to savings and thus the new measures will help in improving the social security and retirement-related benefits for the salaried. Also, the long-term effect of this decision will include an increase in the National savings rate.
So, in the long run, employees might gain with higher retirement benefits, but we should also take into account the difficulties it will cause for the employees and their families who live on month to month salary basis. Low-paid employees who may want more cash in hand may have to suffice with a lower take-home salary. Β
But, these are broad generalizations and there are still several gray areas that remain unclear. It is not clear whether this rule will apply to all wages or will be applicable above a certain wage threshold. The final rules will be notified by the government after taking public comments into consideration. The Bill is anticipated to get enforced by April 2021.
P.S - In part 1, I have tried to explain the concepts in as easy language as I could. If you wish to read more, I have added links (check part 1) for further understanding. Have a happy reading :)
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