Impact of Complex and Changing Salary Rules on The Payroll Process
There has been a lot of discussion around the New wage code in India, with speculations over how it can influence the take-home salary, the Provident Fund cuts, and the salary structure in general. While the Code on Wages 2019 was to come to effect from April 2021, it has been put on hold for the time being. While it is still too early to comment on its actual impact, at present the new code has only made the already complex salary calculation rules more byzantine, which in turn has a direct effect on the payroll process.
To understand how, let's first take a look at the New Code on Wages and what it outlines.
The new code defines the term “wages,” in a detailed way. What once just vaguely meant payment or salary, is now according to Section 2 (y) of the code, described as “the entire remuneration paid to an employee while in employment and include: (i) basic pay; (ii) dearness allowance; and (iii) retaining allowance, if any.”
What this term does not cover are the bonuses, house-rent and utility allowances, the employer’s contribution towards pension or provident fund, conveyance allowance, special expenses allocated to employees owing to the nature of work, overtime allowance and gratuity payable, to list a few.
So, what’s the catch?
The new wage code states that the excluded components cannot exceed 50 percent of the total remuneration. This can simply be translated as basic pay to be 50 percent of the total, hence, making it a huge part of the CTC (Cost to the Company).
If we were to look at the current salary breakdown, most companies have a salary stack where the basic pay varies from 25 to 40 percent of the total compensation, and allowances add up the rest. Employer pays 2 percent of the salary towards Employees' Provident Fund, which is calculated on the basic pay and dearness allowance. So, if basic pay makes up for 50 percent of the total salary, then the contribution to Provident Fund and percentage towards gratuity would also increase, hence changing the CTC structure.
The Payroll Shuffle
That being said for many employees this is good news, considering that the basic pay will be increased and so will the contributions towards gratuity payments and the provident fund. For organizations in which the basic pay doesn’t add up to 50%, extra provisions will have to be made for leave encashment and gratuity payments. The payroll changes would include:
- Basic Pay
The major calculations and rework would be for employees with a basic salary <50% of the total. This would mean calculating Provident Fund and gratuity accordingly. For organizations, calculating the overtime and annual bonus may pose a major challenge, as it can vary from month to month and year to year.
- Provident Fund
With the increase in basic pay, contribution towards Provident Fund (12% of basic) will increase too. This means a general increase in the CTC and for employees this might decrease the take-home pay. It is, however, important to note that there is a tax benefit involved in this reduction, in addition to retirement benefits.
- Gratuity
Gratuity depends on the total number of years served in the company and the last drawn basic salary. So, the increase in basic pay would influence gratuity calculations too.
On a broad level, the Payroll revisions would have organisations taking corrective measures to remove the anomaly in basic pay. While this may not be possible all at once, increasing the basic pay gradually and granting annual increments can help organizations brace the cost hike slowly. Also, policies around leave accumulation and leave encashments, resignation, etc. may have to be revisited to lower the cost burden that organizations may have to face.
While the new wage code is targeted to increase the contribution towards the employee’s retirement corpus, it may affect the in-hand salary, and so the employees may have to recalculate the household expenses, loan payments and additional investments to maintain the balance.