Whether you can work out a gratuity provision under AS 15 on a simple spreadsheet, or must pay for an actuarial valuation, depends on what kind of entity you are, not on how many people you employ. A partnership firm, LLP, proprietary concern or trust that qualifies as a non-company MSME may compute the liability as if every employee left on the balance sheet date. A company, even a small private company with eight staff, has to measure its gratuity obligation actuarially using the Projected Unit Credit Method.
The second thing that has moved is the wage figure that goes into the calculation. Gratuity is now paid under the Code on Social Security, 2020, which came into force on 21 November 2025, and its wider definition of wages can raise the provision even when nobody got a pay rise. Both points affect the FY 2025-26 accounts and every year-end after.
Which entities may use the year-end shortcut
AS 15 (revised 2005) treats gratuity as a defined benefit plan: the employer promises a benefit worked out by formula, so the employer carries the risk that the cost turns out higher. Paragraphs 50 to 116 of the standard set out the full measurement model. The relief for smaller entities sits in provisos to those paragraphs, and it differs sharply between companies and everyone else. The table sets out the position for accounting periods beginning on or after 1 April 2024.
| Type of entity | How the gratuity liability is measured | Where the rule comes from |
|---|---|---|
| Non-company MSME (firm, LLP, proprietorship, trust, society) with turnover up to ₹250 crore and borrowings up to ₹50 crore | Any rational method, for example assuming the benefit is payable to all employees at the end of the year; no actuarial valuation required | ICAI announcement on revised criteria for non-company entities, applicable from 1 April 2024 |
| Large non-company entity (listed, bank, insurer, or above the MSME limits) | Full AS 15: actuarial valuation, Projected Unit Credit Method, all disclosures | AS 15 paragraphs 50 to 123 |
| Small and Medium-sized Company (SMC) | Actuarial valuation using the Projected Unit Credit Method, with the discount rate based on government bond yields at the balance sheet date; reduced disclosures | Proviso to AS 15 as notified for companies under the Companies (Accounting Standards) Rules, 2021 |
| Company that is not an SMC | Full AS 15 | Companies (Accounting Standards) Rules, 2021 |
| Company following Ind AS | Ind AS 19, always actuarial | Companies (Indian Accounting Standards) Rules, 2015 |
The non-company relief comes from the ICAI announcement on revised criteria for classifying non-company entities, which applies to accounting periods commencing on or after 1 April 2024. It splits these entities into MSMEs and Large entities. An MSME is one whose turnover (excluding other income) did not exceed ₹250 crore in the immediately preceding accounting year and whose borrowings did not exceed ₹50 crore at any time in that year. It must also not be listed or in the process of listing, not be a bank, financial institution or insurer, and not be a holding or subsidiary entity of a Large entity.
Under Annexure 1 of that announcement, an MSME need not apply paragraphs 50 to 116, or the presentation and disclosure rules in paragraphs 117 to 123, for defined benefit plans. It may instead calculate the accrued liability by some other rational method, such as "a method based on the assumption that such benefits are payable to all employees at the end of the accounting year". The same relief applies to other long-term benefits such as accumulated leave encashment.
Two conditions are easy to miss. An entity that has just come within the MSME limits gets the relaxations only after it has remained an MSME for two consecutive years. And an MSME must state in a note to its financial statements that it is an MSME and has complied with the Accounting Standards as applicable to an MSME.
Before 1 April 2024, the non-company scheme used Levels I to IV. The year-end shortcut was open to Level II and III entities only if they had fewer than 50 employees on average, while Level IV entities could use it regardless. The 50-employee test does not appear in the 2024 MSME criteria, so a firm with 120 employees and ₹40 crore turnover can now use the shortcut, provided it meets the MSME conditions.
Why a small private company still needs an actuarial valuation
For companies the rule sits in AS 15 as notified under the Companies (Accounting Standards) Rules, 2021. Appendix I to ICAI's Compendium of Accounting Standards reproduces the definition. An SMC is an unlisted company that is not a bank, financial institution or insurer. Its turnover in the preceding year must not exceed ₹250 crore, and its borrowings (including public deposits) must not have exceeded ₹50 crore at any time in that year. It also must not be a holding or subsidiary of a company that is not an SMC.
The proviso after paragraph 116 of AS 15 (revised 2005), Employee Benefits lets an SMC skip the detailed recognition and measurement rules for defined benefit plans. It then adds that such companies "should actuarially determine and provide for the accrued liability". The method has to be the Projected Unit Credit Method, and the discount rate has to be set by reference to market yields on government bonds at the balance sheet date, as paragraph 78 requires. The further proviso that allows "some other rational method" names only non-company enterprises. Companies are not in it.
So a private limited company with a ₹6 crore turnover and a dozen employees cannot simply multiply last drawn wages by years of service and call it the AS 15 provision. It needs a valuation report, and under the proviso to paragraph 126 it must still disclose the actuarial assumptions listed in paragraph 120(l), such as the discount rate, salary escalation and attrition. A company that has been using the shortcut, perhaps since it converted from a firm, should move to a valuation and explain the change and its effect in the notes.
What the year-end shortcut actually computes
The shortcut asks one question: if every employee's service ended on the balance sheet date, how much gratuity would the entity have to pay? The answer becomes the closing provision. There is no discounting, no salary growth assumption and no attrition rate, which is why it usually produces a lower or higher figure than an actuary would, depending on the age and service profile of the staff.
Because the question is "what is payable today", the statutory payment rules decide who is included. A regular employee who has not completed five years of continuous service would get nothing if he resigned on 31 March, so the assumption gives him a nil figure. Some entities prefer to provide for all employees regardless of service, on the view that most will cross five years; that is a defensible policy too, as long as it is applied consistently and described in the accounting policy note. What the method does not permit is leaving out employees who are already eligible.
The wage figure changed on 21 November 2025
The Code on Social Security, 2020 subsumed the Payment of Gratuity Act, 1972. The Ministry of Labour and Employment's FAQs on the Labour Codes confirm that gratuity under the Code applies with effect from 21 November 2025, and they say on year-end provisioning only that establishments may make provision as per accounting norms. Under section 53 of the Code and those FAQs, the computation now works like this:
- Rate: 15 days' wages for every completed year of service or part of a year exceeding six months, based on the wages last drawn. For a monthly-rated employee, 15 days' wages is the monthly wage divided by 26 and multiplied by 15.
- Five-year condition: it still applies on resignation, retirement and superannuation, but not on death, disablement or expiry of a fixed-term contract.
- Fixed-term employees: gratuity is paid pro rata, so these employees belong in the provision even with short service.
- Ceiling: the maximum is the amount notified by the Central Government, which the FAQs put at ₹20 lakh.
- Better terms: an award, agreement or contract giving more generous gratuity overrides the statutory formula, so check appointment letters and any gratuity trust rules.
The change most likely to move your numbers is the definition of wages. Wages mean all remuneration, but certain allowances and benefits are excluded. If those excluded items together exceed 50% of total remuneration, the excess is added back to wages. Under the old Act, many employers computed gratuity on basic pay plus dearness allowance alone. Where the salary structure kept basic pay low and loaded the rest into excluded allowances, the gratuity base now goes up.
Take an employee on ₹50,000 a month whose basic pay is ₹20,000 and whose remaining ₹30,000 consists of items excluded from wages. Half of total remuneration is ₹25,000. The excluded items exceed that by ₹5,000, so wages for gratuity become ₹20,000 plus ₹5,000, that is ₹25,000. Whether a particular allowance is excluded depends on the list in section 2(88) of the Code, so run the test employee by employee from the payroll register, not from a CTC summary.
Worked example: a partnership firm closing FY 2025-26
This is an illustration with assumed figures. A Nagpur trading firm is a partnership with turnover of ₹38 crore in FY 2024-25 and no borrowings above ₹50 crore. It has qualified as an MSME for well over two years, so it may use the year-end method. Its provision at 31 March 2025, worked out on basic pay plus DA, was ₹2,10,000. No gratuity was paid during FY 2025-26. Three employees matter at 31 March 2026.
| Employee | Joined | Service counted at 31 March 2026 | Wages for gratuity | Gratuity if payable on 31 March 2026 |
|---|---|---|---|---|
| Employee A | 1 June 2014 | 11 years 10 months, counted as 12 years | ₹28,000 (excluded items ₹20,000 out of ₹48,000 pay, below 50%) | ₹28,000 × 15 ÷ 26 × 12 = ₹1,93,846 |
| Employee B | 15 January 2019 | 7 years 2 months, counted as 7 years | ₹25,000 (basic ₹20,000 plus ₹5,000 added back under the 50% rule) | ₹25,000 × 15 ÷ 26 × 7 = ₹1,00,962 |
| Employee C | 1 August 2022 | 3 years 8 months | ₹22,000 | Nil, five years not completed |
The closing provision is ₹2,94,808 (₹1,93,846 plus ₹1,00,962). The charge to profit and loss for FY 2025-26 is the closing provision less the opening provision plus any gratuity actually paid in the year: ₹2,94,808 minus ₹2,10,000, or ₹84,808.
Part of that charge is the Labour Code effect rather than another year of service. On the old basic-plus-DA base, Employee B's figure would have been ₹20,000 × 15 ÷ 26 × 7, or ₹80,769. The wider wage definition adds ₹20,193 for that one employee. For a firm with a few hundred staff on a similar pay structure, the jump can be large enough that the partners will ask why. Keep the per-employee working with the 50% test shown, because that is the first thing a reviewer will want to see.
Had the firm been a private limited company of the same size, none of this arithmetic would be an acceptable AS 15 figure. It would go to an actuary, who would project salaries forward, discount at the government bond yield and apply withdrawal rates.
Booking the provision and presenting it
The entry is a debit to employee benefits expense (gratuity) and a credit to provision for gratuity, for the movement worked out above. If the entity has a funded scheme, for example a group gratuity policy with an insurer, the liability recognised is the computed obligation less the fund balance, and contributions paid during the year are part of the reconciliation. Payments to leaving employees during the year are debited to the provision when made, which is why the expense formula adds them back.
Split the provision between current and non-current where the entity's format requires it. Under the shortcut method, a practical basis is the amount payable to employees expected to leave or retire within twelve months. In the notes, state that the entity is an MSME, describe the method used for gratuity, and give the ceiling and wage basis applied. A short policy note saves a long conversation with the bank that reads the accounts.
Where the Labour Code increase goes in the profit and loss account
On 26 December 2025 the Accounting Standards Board of ICAI issued FAQs on the key accounting implications of the New Labour Codes. As reported by Business Standard, the FAQs treat the changes to gratuity resulting from the Codes as plan amendments under AS 15 and Ind AS 19. The increase in the obligation is therefore past service cost, not a change in estimate. They also called for the increase to be reflected in results for the period ending 31 December 2025.
For an entity applying full AS 15, paragraph 94 then decides the timing. Past service cost is recognised immediately to the extent the benefits are already vested, and the unvested part is spread on a straight-line basis over the average period until the benefits vest. Under Ind AS 19, the whole past service cost goes to profit or loss at once.
An MSME on the year-end method does not apply paragraph 94 at all, because paragraphs 50 to 116 are switched off for it. Its closing figure already reflects the new wage base for every eligible employee, so the entire increase falls into the FY 2025-26 expense. If the amount is material, disclose it separately in the notes so that readers comparing the two years can see why staff costs jumped without any headcount change.
Checks before you sign off the gratuity provision
- Confirm the entity type first: company or non-company. If it is a company, check SMC status against the turnover and borrowing figures of the preceding year and arrange an actuarial valuation.
- For a non-company entity, test the MSME conditions on the preceding year's figures and confirm it has been an MSME for two consecutive years before using the relaxation.
- Pull joining dates from the personnel files, not from memory, and count service to the balance sheet date, rounding up only where the part year exceeds six months.
- Apply the 50% wage test for each employee using the actual pay components in the payroll register for the last month of the year.
- Include fixed-term employees on a pro rata basis and cap each figure at the ₹20 lakh ceiling currently notified.
- Read appointment letters and any gratuity trust deed for terms better than the statute, such as a 30-day rate or a lower service condition.
- Reconcile opening provision, expense, payments and closing provision, and keep that reconciliation with the working papers.
The ceiling and the day count are the two figures the Central Government can change by notification under section 53. Before finalising any year-end, check the current notified amount on the Ministry of Labour and Employment's Labour Codes page rather than relying on last year's working.
