New salary code: how your salary structure will change

The four labor codes encompass 29 pieces of legislation. The purpose of each of these regulations was varied and therefore the definition of wages in many of these regulations was also different. The codes aim at the unification, simplification and consolidation of these regulations, and therefore have a common approach, which includes a uniform definition of wages in all these regulations.

This is a significant change, and while the intention of having a one-size-fits-all approach is welcome, it would mean that the industry needs to analyze and understand the impact of the same under each of these subsumed legislations.

The term “salary”, as defined in current codes, provides that “all remuneration” provided to the employee is to be taken into account and is subject to certain specified exclusions, such as statutory bonus, transportation allowance, travel concessions, housing allowance or housing allowance, PF and pension contributions, overtime, commission, etc.

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The accumulation of these exclusions is limited to 50% of the remuneration, and therefore the salary as it is finally calculated would be at least 50% of the total remuneration. Obviously, the intent of the codes is to ensure that FP contributions, gratuity payments, etc. are made on at least 50% of total compensation. The definition also provides for certain termination-related payments, such as gratuities, etc., and these are not subject to the 50% limit. In addition, the evaluation of benefits in kind is also planned.

Currently, most employers have a salary structure in which the base salary ranges from 25% to 40% of the employee’s CTC, which forms the basis for contributions to both the provident fund and gratuities. With salaries under the codes rising to at least 50% of the CTC, there will be an impact from both a PF and gratuity perspective. Let us take a simple example of an employee having a monthly salary of Rs. 25,000.

In the above scenario, the gratuity would be calculated under the current provisions of the law on the payment of gratuities on the basic salary of Rs. 10,000 per month. From the perspective of the PF, considering the principles arising from the decision of the Supreme Court (SC) in the case of Vivekananda Vidya Mandir et al., the employer would have contributed to the PF on Rs. 15,000 per month (which is the legal salary cap for PF).

According to the codes, the salary of this employee would amount to Rs. 17,000 per month, which must therefore be taken into account for the calculation of the gratuity. If this employee leaves the organization from the codes that have become effective, and assume that he has accumulated 15 years of service, the gratuity payable (calculated as the last salary drawn / 26 * 15 * number of years of service) would be Rs. 147,115 from the previous amount of Rs. 86, 538 a clear increase of 1.7 times.

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This will not only impact the company’s finances since companies are required to forecast the increase in liabilities through an actuarial valuation, but also the employee’s income.

Contrary to the simplistic example above, in practice most companies would include both the employer contribution to the PF as well as entitlements to gratuities under the CTC. Therefore, an increase in the payment of gratuities will reduce the amount of the special allowance and the employee’s net salary.

From a FP perspective, FP contributions on salaries above the statutory salary ceiling are not mandatory. This is based on the provisions of the PF scheme as they stand today, as well as the principles arising from the Supreme Court’s decision in the Marathwada Grameen Bank case.

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Therefore, when employers contribute to PF on wages up to Rs 15,000 per month, companies can adopt the view that no increase in contribution is required.

However, it is certainly necessary to review the employment contract and the internal policy of the organization to ensure that they are aligned with the position adopted. There would be an impact on PF with respect to employees whose salaries are below the legal salary cap as well as international workers.

Overall, it is important for organizations to analyze the impact of the change in the definition of salaries.

(The author is partner, Deloitte India)

William M. Mayer