UNIT-5

REWARD AND COMPENSATION MANAGEMENT

COMPENSATION

INTRODUCTION:
Compensation is the remuneration received by an employee in returns of their
contribution to the organization. Compensation of employees for their services is
important responsibility of human resource management. Every organization must
offer good wages and fringe benefits to attract and retain talented employees with the
organization. If at any time, the wages offered by a firm are not competitive as
compared to other firms, the efficient workers may leave the firm. Therefore, workers
must be remunerated adequately for their services. Compensation to workers will vary
depending upon the nature of job, skills required, risk involved, nature of working
conditions, paying capacity of the employer, bargaining power of the trade union,
wages and benefits offered by the other units in the region or industry etc.,

Considering that the current trend in many sectors (particularly the knowledge intensive
sectors like IT and Services) is to treat the employees as “creators and drivers of value” rather
than one more factor of production, companies around the world are paying close attention to
how much they pay, the kind of components that this pay includes and whether they are
offering competitive compensation to attract the best talent

DEFINITION:
Gary Dessler in his book Human Resource Management defines compensation in
these words “Employee compensation refers to all forms of pay going to employees and
arising from their employment.” The phrase ‘all forms of pay’ in the definition does not
include non-financial benefits, but all the direct and indirect financial compensations

According to Thomas J. Bergmann(1988) compensation consists of four distinct

components: Compensation = Wage or Salary + Employee benefits +Non-recurring financial
rewards + Non-pecuniary rewards.

The system of compensation should be so designed that it achieves the following

objectives.

 The capable employees are attracted towards the organization

 The employees are motivated for better performance
 The employees do not leave the employer frequently

OBJECTIVE OF COMPENSATION
  Recruit & Retain Competent Employees
 Consistency & Equity in Pay
 Employability in a Cost Effective
 Financial Protection to Employees
 Organizational Ability to Pay
 Comparative& Comparable
 Benefit Management
 Improve Organizational Performance

COMPONENTS OF COMPENSATION:

Basic Wages/Salaries:

Basic wages / salaries refer to the cash component of the wage structure based on which other
elements of compensation may be structured. It is normally a fixed amount which is subject
to changes based on annual increments or subject to periodical pay hikes.

Wages represent hourly rates of pay, and salary refers to the monthly rate of pay, irrespective
of the number of hours put in by the employee. Wages and salaries are subject to the annual
increments. They differ from employee to employee, and depend upon the nature of job,
seniority, and merit

Dearness Allowance:

The payment of dearness allowance facilitates employees and workers to face the price
increase or inflation of prices of goods and services consumed by him. The onslaught of price
increase has a major bearing on the living conditions of the labour.

The increasing prices reduce the compensation to nothing and the money’s worth is coming
down based on the level of inflation. The payment of dearness allowance, which may be a
fixed percentage on the basic wage, enables the employees to face the increasing prices

Incentives:

Incentives are paid in addition to wages and salaries and are also called ‘payments by results’.
Incentives depend upon productivity, sales, profit, or cost reduction efforts.

There are:

(a) Individual incentive schemes, and

(b) Group incentive programmes.

Individual incentives are applicable to specific employee performance. Where a given task
demands group efforts for completion, incentives are paid to the group as a whole. The
amount is later divided among group members on an equitable basis
Bonus:

The bonus can be paid in different ways. It can be fixed percentage on the basic wage paid
annually or in proportion to the profitability. The Government also prescribes a minimum
statutory bonus for all employees and workers. There is also a bonus plan which compensates
the managers and employees based on the sales revenue or profit margin achieved. Bonus
plans can also be based on piece wages but depends upon the productivity of labour

Non-Monetary Benefits:

These benefits give psychological satisfaction to employees even when financial benefit is
not available. Such benefits are:

(a) Recognition of merit through certificate, etc.

(b) Offering challenging job responsibilities,

(c) Promoting growth prospects,

(d) Comfortable working conditions,

(e) Competent supervision, and

(f) Job sharing and flexi-time and others

Commissions:

Commission to managers and employees may be based on the sales revenue or profits of the
company. It is always a fixed percentage on the target achieved. For taxation purposes,
commission is again a taxable component of compensation.

The payment of commission as a component of commission is practiced heavily on target

based sales. Depending upon the targets achieved, companies may pay a commission on a
monthly or periodical basis

Mixed Plans:

Companies may also pay employees and others a combination of pay as well as commissions.
This plan is called combination or mixed plan. Apart from the salaries paid, the employees
may be eligible for a fixed percentage of commission upon achievement of fixed target of
sales or profits or Performance objectives. Nowadays, most of the corporate sector is
following this practice. This is also termed as variable component of compensation.

Piece Rate Wages:

Piece rate wages are prevalent in the manufacturing wages. The labourers are paid wages for
each of the Quantity produced by them. The gross earnings of the labour would be equivalent
to number of goods produced by them. Piece rate wages improves productivity and is an
absolute measurement of productivity to wage structure. The fairness of compensation is
totally based on the productivity and not by other qualitative factors

Fringe Benefits:

Fringe benefits may be defined as wide range of benefits and services that employees receive
as an integral part of their total compensation package. They are based on critical job factors
and performance. Fringe benefits constitute indirect compensation as they are usually
extended as a condition of employment and not directly related to performance of concerned
employee.

Profit Sharing:

Profit-sharing is regarded as a stepping stone to industrial democracy. Profit-sharing is an

agreement by which employees receive a share, fixed in advance of the profits. Profit sharing
usually involves the determination of an organization’s profit at the end of the fiscal year and
the distribution of a percentage of the profits to the workers qualified to share in the earnings.

TYPES OF COMPENSATION/BASE AND SUPPLEMENTARY COMPENSATION

Total compensation returns are more transactional. They include pay received directly as cash
(like base, merit, incentives, cost of living adjustments) and indirectly as benefits (like
pensions, medical insurance, programs to help balance work and life demands, brightly
coloured uniforms). Programme to pay to people can be designed in a wide variety of ways,
and a single employer typically uses more than one

1. Direct /Base Compensation:

Direct compensation refers to monetary benefits offered and provided to employees in return
of the services they provide to the organization. The monetary benefits include basic 8 salary,
house rent allowance, conveyance, leave travel allowance, medical reimbursements, special
allowances, bonus, Pf/Gratuity, etc. They are given at a regular interval at a definite time.

a) Basic Salary : Salary is the amount received by the employee in lieu of the work done
by him/her for a certain period say a day, a week, a month, etc. It is the money an
employee receives from his/her employer by rendering his/her services
b) House Rent Allowance:Organizations either provide accommodations to its
employees who are from different state or country or they provide house rent
allowances to its employees. This is done to provide them social security and motivate
them to work.
c) Conveyance: Organizations provide for cab facilities to their employees. Few
organizations also provide vehicles and petrol allowances to their employees to
motivate them
d) Leave Travel Allowance: These allowances are provided to retain the best talent in
the organization. The employees are given allowances to visit any place they wish
with their families. The allowances are scaled as per the position of employee in the
organization.
 e) Medical Reimbursement: Organizations also look after the health conditions of their
employees. The employees are provided with medi-claims for them and their family
members. These medi-claims include health-insurances and treatment bills
reimbursements.
f) Bonus: Bonus is paid to the employees during festive seasons to motivate them and
provide them the social security. The bonus amount usually amounts to one month’s
salary of the employee.
g) Special Allowance: Special allowance such as overtime, mobile allowances, meals,
commissions, travel expenses, reduced interest loans; insurance, club memberships,
etc are provided to employees to provide them social security and motivate them
which improve the organizational productivity

[Link] /Supplementary Compensation:

Indirect compensation refers to non-monetary benefits offered and provided to employees in

lieu of the services provided by them to the organization. They include Leave Policy,
Overtime Policy, Car policy, Hospitalization, Insurance, Leave travel Assistance Limits,
Retirement Benefits, Holiday Homes

a) Leave Policy: It is the right of employee to get adequate number of leave while
working with the organization. The organizations provide for paid leaves such as,
casual leaves, medical leaves (sick leave), and maternity leaves, statutory pay, etc.
b) Overtime Policy: Employees should be provided with the adequate allowances and
facilities during their overtime, if they happened to do so, such as transport facilities,
overtime pay, etc.
c) Hospitalization: The employees should be provided allowances to get their regular
check-ups, say at an interval of one year. Even their dependents should be eligible for
the medi-claims that provide them emotional and social security.
d) Insurance: Organizations also provide for accidental insurance and life insurance
for employees. This gives them the emotional security and they feel themselves
valued in the organization.
 e) Leave Travel: The employees are provided with leaves and travel allowances to go
for holiday with their families. Some organizations arrange for a tour for the
employees of the organization. This is usually done to make the employees stress free.
f) Retirement Benefits: Organizations provide for pension plans and other benefits for
their employees which benefits them after they retire from the organization at the
prescribed age.
g) Holiday Homes: Organizations provide for holiday homes and guest house for their
employees at different locations. These holiday homes are usually located in hill
station and other most wanted holiday spots. The organizations make sure that the
employees do not face any kind of difficulties during their stay in the guest house.
h) Flexible Timings: Organizations provide for flexible timings to the employees who
cannot come to work during normal shifts due to their personal problems and valid
reasons.

COMPETITIVE COMPENSATION DESIGN

Understanding how to design a compensation system that is appropriate is vital for an

organisation, as it is an effective way to promote a positive work environment and boost
employee morale. When determining compensation, the goals of an organisation are to attract
people to work for it and to retain those people who have proven their value with their hard
work.

A company can use compensation to motivate employees to work at their peak performance
and to ensure they are content with their jobs and work environment. A fair and competitive
compensation system can help an organisation retain talented employees and reduce
employee turnover. Employee satisfaction and productivity may increase if employees
believe the compensation they are receiving is more favourable than that of comparable jobs.
Here are the steps for designing an effective compensation plan for a company:

1. Align the compensation system with the organisation's values

An effective compensation system is one that supports the goals and values of the
organisation. When designing such a system, it is important that you consider it carefully
because it ultimately reflects how an organisation values its employees. A good
compensation strategy can provide a competitive advantage, and the key to designing it is to
understand the structure, vision and direction of the organisation.

A well-designed compensation system is one tool a company can use to support the
achievement of its strategic objectives. A fair compensation plan can motivate employees.
Implementing a performance-based compensation system can offer many benefits. The
effective use of incentive plans can inspire employees to perform better and boost
productivity. Supporting the organisation's strategic goals and ensuring the system fits with
its structure and strategy are two important objectives when you are designing a
compensation system.

2. Analyse the job market

It is helpful to gather relevant data before you design a compensation plan to identify current
market trends and position an organisation effectively. It is important that employees
perceive their compensation to be fair when they compare it to what other employees are
receiving for the same kind of work. An employer's objective is typically to attract and retain
qualified and high-performing employees. Some market variables that may affect this are not
within the control of an employer, so it is beneficial to target those elements that are within
the scope.

While an organisation is free to determine the compensation levels for new hires and to
advertise those salary ranges, it is important to consider other employers who are also looking
to fill positions with applicants from the same target market group. Hence, it is a good idea to
conduct a survey of the job market to find out what compensation packages other employers
are offering their employees who work in similar positions.

3. Decide on the type of compensation

If an organisation bases its compensation system on standardised components, employees are

more likely to view it as fair and equitable. Employers may compensate employees directly
or indirectly. Direct compensation includes an employee's basic pay, dearness allowance,
housing allowance, bonuses, incentives, commissions, travel reimbursements, medical
reimbursements, special allowances and gratuities. Indirect compensation may include
benefits such as life insurance, health insurance, a pension, a provident fund, a company car,
overtime pay, child care and annual leave. Non-financial compensation, such as gifts, extra
paid leave, a new office or reimbursement for purchasing health and wellness equipment, are
other possible provisions.

4. Understand the job requirements

When designing a compensation system, it is necessary to consider the job descriptions and
compensation packages for similar positions in the same field. A job description specifies the
contractual obligations, prerequisites, duties, responsibilities, settings, situational factors and
other components of a job. Each position requires a detailed outline of the expectations and
responsibilities and an appropriate job title that aligns with the company's internal
organisational policies and the current state of the market

5. Determine pay equity

Compensation impacts employee job satisfaction, performance and motivation. Finding an

equitable balance between the amount of money that an organisation is willing to pay to its
employees and the employee's perceptions of their own worth is necessary to create a viable
structure. Limiting compensation to save money may negatively affect employee satisfaction
and morale, while increasing it may improve retention and reduce employee turnover.

6. Design the salary structure

You can create a salary structure by ranking jobs based on a competitive compensation line
and pay variants. A job ranking is a collection of different but comparable jobs. By
establishing a job ranking system, it is possible to consider similar jobs equitably and
determine fair compensation packages. Furthermore, a salary structure provides guidelines
for promoting employees from one rank to the next. An organisation can determine
compensation based on its employees' qualifications, experience and efficiency by
establishing pay ranges within the job ranking. The organisational budget is another factor to
consider when you are determining employee compensation

FACTORS CONSIDERED IN DECIDING THE COMPENSATION

Employers decide on what is the right compensation after taking into account the following
points. The Job Description of the employee that specifies how much should be paid and the
parts of the compensation package. The Job Description is further made up of
responsibilities, functions, duties, location of the job and the other factors like environment
etc. These elements of the job description are taken individually to arrive at the basic
compensation along with the other components like benefits, variable pay and bonus. It needs
to be remembered that the HRA or the House Rental Allowance is determined by a mix of
factors that includes the location of the employee and governmental policies along with the
grade of the employee. Hence, it is common to find a minimum level of HRA that is common
to all the employees and which increases in proportion to the factors mentioned above.

The Job Evaluation that is a system for arriving at the net worth of employees based on
comparison with appropriate compensation levels for comparable jobs across the industry as
well as within the company. Factors like Experience, Qualifications, Expertise and Need of
the company determine how much the employer is willing to pay for the employee. It is often
the case that employers compare the jobs across the industry and arrive at a particular
compensation after taking into account the specific needs of their firm and in this respect,
salary surveys and research results done by market research firms as to how much different
companies in the same industry are paying for similar roles. The components of
compensation that have been discussed above are the base requirements for any HR Manager
who is in charge of fixing the compensation for potential employees. Hence, all HR
professionals and managers must take this following aspect into account when they determine
the compensation to be paid to employees

I. External Factors:
1) Demand and Supply of Labour:Wage is a price or compensation for the
services rendered by a worker. The firm requires these services, and it must
pay a price that will bring forth the supply which is controlled by the
individual worker or by a group of workers acting together through their
unions. The primary result of the operation of the law of supply and demand is
the creation of the going wage rate. It is not practicable to draw demand and
supply curves for each job in an organization even though, theoretically, a
separate curve exists for each job.
2) Cost of Living: Another important factor affecting the wage is the cost-of-
living adjustments of wages. This tends to vary money wage depending upon
the variations in the cost-of-living index following rise or fall in the general
price level and consumer price index. It is an essential ingredient of long-term
labour contract unless provision is made to reopen the wage clause
periodically.
3) Labour Union: Organized labour is able to ensure better wages than the
unorganized one. Higher wages may have to be paid by the firm to its workers
under the pressure or trade union. 13 If the trade union fails in their attempt to
raise the wage and other allowances through collective bargaining, they resort
to strike and other methods hereby the supply of labour is restricted. This
exerts a kind of influence on the employer to concede at least partially the
demands of the labour unions.
4) Government:To protect the working class from the exploitations of powerful
employers, the government has enacted several laws. Laws on minimum
wages, hours of work, equal pay for equal work, payment of dearness and
other allowances, payment of bonus, etc., have been enacted and enforced to
bring about a measure of fairness in compensating the working class. Thus, the
laws enacted and the labour policies framed by the government have an
important influence on wages and salaries paid by the employers. Wages and
salaries can’t be fixed below the level prescribed by the government.
5) Prevailing Wage Rates: Wages in a firm are influenced by the general wage
level or the wages paid for similar occupations in the industry, region and the
economy as a whole. External alignment of wages is essential because if
wages paid by a firm are lower than those paid by other firms, the firm will
not be able to attract and retain efficient employees. For instance, there is a
wide difference between the pay packages offered by multinational and Indian
companies. It is because of this difference that the multinational corporations
are able to attract the most talented workforce.
II. Internal Factors
1)Ability to Pay
 Employer’s ability to pay is an important factor affecting wages not only for
the individual firm, but also for the entire industry. This depends upon the
financial position and profitability of the firm. However, the fundamental
determinants of the wage rate for the individual firm emanate from supply and
demand of labour. If the firm is marginal and cannot afford to pay competitive
rates, its employees will generally leave it for better paying jobs in other
organizations. But, this adjustment is neither immediate nor perfect because of
problems of labour immobility and lack of perfect knowledge of alternatives.
If the firm is highly successful, there is little need to pay more than the
competitive rates to obtain personnel. Ability to pay is an important factor
affecting wages, not only for the individual firm but also for the entire
industry.
2)Top Management Philosophy
Wage rates to be paid to the employees are also affected by the top
management’s philosophy, values and attitudes. As wage and salary payments
constitute a major portion of costs and /or apportionment of profits to the
employees, top management may like to keep it to the minimum. On the other
hand, top management may like to pay higher pay to attract top talent.
3)Productivity of Workers
To achieve the best results from the workers and to motivate him to increase
his efficiency, wages have to be productivity based. There has been a trend
towards gearing wage increase to productivity increases. Productivity is the
key factor in the operation of a company. High wages and low costs are
possible only when productivity increases appreciably.
4)Job Requirements
Job requirements indicating measures of job difficulty provide a basis for
determining the relative value of one job against another in an enterprise.
Explicitly, job may be graded in terms of a relative degree of skill, effort and
responsibility needed and the adversity of working conditions. The
occupational wage differentials in terms of
a) Hardship,
b) Difficulty of learning the job
c) Stability of employment
d) Responsibility of learning the job and
e) Change for success or failure in the work.
This reforms a basis for job evaluation plans and thus, determines wage levels
in an industry.
5)Employees Related Factors :
Several employees related factors interact to determine his remuneration.
These include

1 .Performance: productivity is always rewarded with a pay increase. Rewarding

performance motivates the employees to do better in future.
 [Link]: Unions view seniority as the most objective criteria for pay increases
whereas management prefer performance to effect pay increases.
[Link]: Makes an employee gain valuable insights and is generally rewarded
[Link]: organizations do pay some employees based on their potential. Young
managers are paid more because of their potential to perform even if they are short of
experience
6)Organizational Politics
Compensation surveys, job analysis, job evaluation and employee performance are
all involved in wage and salary decisions. Political considerations may enter into the
equation in the following ways:
i) Determination of firms included in the compensation survey: managers could make
their firm appear to be a wage leader by including in the survey those organizations
that are pay followers.

ii) Choice of compensable factors for the job evaluation plan: Again, the job value
determined by this process could be manipulated

iii) Emphasis placed on either internal or external equity and

iv) Results of employee performance appraisal may be intentionally disported by the

supervisor Thus, a sound and objective compensation system may be destroyed by
organizational politic

7)Evaluation of Compensation

Today’s compensation systems have come from a long way. With the changing
organizational structures workers’ need and compensation systems have also been
changing. From the bureaucratic organizations to the participative organizations,
employees have started asking for their rights and appropriate compensations. The higher
education standards and higher skills required for the jobs have made the organizations
provide competitive compensations to their employees. Compensation strategy is derived
from the business strategy. The business goals and objectives are aligned with the HR
strategies. Then the compensation committee or the concerned authority formulates the
compensation strategy. It depends on both internal and external factors as well as the life
cycle of an organization
 External Factor INTERNAL FACTOR
Compliance with the law
of the land Capacity to pay

Demand and supply Top Management

of labour Philosophy

Cost of living Job requirements

Governement Organisational
Politics
Prevailing Wage Employee related
Rates Factors
Labour Union and Productivity of
collective Bargaining Workers

COMPENSATION MANAGEMENT
A good compensation package is important to motivate the employees to increase the
organizational productivity. Unless compensation is provided no one will come and work for
the organization. Thus, compensation helps in running an organization effectively and
accomplishing its goals. Salary is just a part of the compensation system; the employees have
other psychological and self-actualization needs to fulfil. Thus, compensation serves the
purpose.

The most competitive compensation will help the organization to attract and sustain the best
talent. The compensation package should be as per industry standards. Human Resource
Management (HRM) has never been as significant as it is today. Companies want to attract,
retain and motivate brains to meet objectives. Today humans are regarded as one of every
company’s asset, so they need to be efficiently and effectively managed. One of the tools
companies use to attract, retain and motivate its people is Compensation Management.

OBJECTIVES OF COMPENSATION MANAGEMENT

1. To Establish a Fair and Equitable Remuneration

Effective compensation management objectives are to maintain internal and external equity
in remuneration paid to employees. Internal equity means similar pay for similar 18 work. In
other words, compensation differentials between jobs should be in proportion of differences
in the worth of jobs. External equity implies pay for a job should be equal to pay for a similar
job in other organizations. Payments based on jobs requirements, employee performance and
industry levels minimize favouritism and inequities in pay.

2. To Attract Competent Personnel

 A sound wage and salary administration help to attract qualified and hardworking people by
ensuring an adequate payment for all jobs. For example, IT companies are competing each
other and try their level best to attract best talents by offering better compensation packages.

3. To Retain the Present Employees

By paying competitive levels, the company can retain its personnel. It can minimize the
incidence of quitting and increase employee loyalty. For example,employee’s attrition is high
in knowledge sectors (Ad-agency, KPO, BPO etc.,) which force the companies to offer better
pay to retain their employees.

4. To Improve Productivity

Sound wage and salary administration helps to improve the motivation and morale of
employees which in turn lead to higher productivity. Especially private sectors companies’
offer production linked compensation packages to their employees which leads to higher
productivity.

5. To Control Cost

Through sound compensation management, administration and labour costs can be kept in
line with the ability of the company to pay. If facilitates administration and control of pay
roll. The companies can systematically plan and control labour costs.

6. To Improve Union Management Relations

Compensation management based on jobs and prevailing pay levels are more acceptable to
trade unions. Therefore, sound wage and salary administration simplify collective bargaining
and negotiations over pay. It reduces grievances arising out of wage inequities.

7. To Improve Public Image of the Company

Wage and salary programme also seeks to project the image of the progressive employer and
to company with legal requirements relating to wages and salaries.

8. To Improve Job Satisfaction

If employees would be happy with their jobs and would love to work for the company if they
get fair rewards in exchange of their services.

9. To Motivate Employees: Employees

All have different kinds of needs. Some of them want money so they work for the company
which gives them higher pay. Some of them value achievement more than money, they would
associate themselves with firms which offer greater chances of promotion, learning and
development. A compensation plans that hits workers’ needs is more likely to motivate them
to act in the desired way.

10. Peace of Mind

Offering of several types of insurances to workers relieves them from certain fears, as a result
workers now work with relaxed mind.

11. Increases Self-Confidence

Every human being wants his/her efforts to get acknowledgment. Employees gain more and
more confidence in them and in their abilities if they receive just rewards. As a result, their
performance level shoots up.

SIGNIFICANCE OF COMPENSATION MANAGEMENT:

Compensation and Reward system plays vital role in a business organization. Since, among
four Ms, i.e. Men, Material, Machine and Money, Men has been most important factor, it is
impossible to imagine a business process without Men.

Every factor contributes to the process of production/business. It expects return from the
business process such as rent is the return expected by the landlord, capitalist expects interest
and organizer i.e. entrepreneur expects profits. Similarly, the labour expects wages from the
process.

Labour plays vital role in bringing about the process of production/business in motion. The
other factors being human, has expectations, emotions, ambitions and egos. Labour therefore
expects to have fair share in the business/production process. Therefore, a fair compensation
system is a must for every business organization. The fair compensation system will help in
the following:

 An ideal compensation system will have positive impact on the efficiency and results
produced by employees. It will encourage the employees to perform better and
achieve the standards fixed.
 It will enhance the process of job evaluation. It will also help in setting up an ideal job
evaluation and the set standards would be more realistic and achievable.
 Such a system should be well defined and uniform. It will be applied to all the levels
of the organization as a general system.
 The system should be simple and flexible so that every employee would be able to
compute his own compensation receivable.
 It should be easy to implement, should not result in exploitation of workers.
 It will raise the morale, efficiency and cooperation among the workers. It, being just
and fair would provide satisfaction to the workers.
 An ideal compensation system will have positive impact on the efficiency and results
produced by employees. It will encourage the employees to perform better and
achieve the standards fixed.
 It will enhance the process of job evaluation. It will also help in setting up an ideal job
evaluation and the set standards would be more realistic and achievable.
  Such a system should be well defined and uniform. It will be applied to all the levels
of the organization as a general system. The system should be simple and flexible so
that every employee would be able to compute his own compensation receivable.
 It should be easy to implement, should not result in exploitation of workers.
 It will raise the morale, efficiency and cooperation among the workers. It, being just
and fair would provide satisfaction to the workers.
 Such system would help management in complying with the various labour acts.
 Such system should also solve disputes between the employee union and
management.
 The system should follow the management principle of equal pay.
 It should motivate and encouragement those who perform better and should provide
opportunities for those who wish to excel.
 Sound Compensation/Reward System brings peace in the relationship of employer
and employees. It aims at creating a healthy competition among them and
encourages employees to work hard and efficiently.
 The system provides growth and advancement opportunities to the deserving
employees. ➢➢ The perfect compensation system provides platform for happy and
satisfied workforce. This minimizes the labour turnover. The organization enjoys the
stability.
 The organization is able to retain the best talent by providing them adequate
compensation thereby stopping them from switching over to another job.
 The business organization can think of expansion and growth if it has the support of
skillful, talented and happy workforce.
 The sound compensation system is hallmark of organization’s success and prosperity.
The success and stability of organization is measured with pay-package it provides to
its employees

PRINCIPLES OF COMPENSATIONADMINISTRATION

 Compensation policy should be developed by taking into consideration of the views

of employers, the employees, the consumers and the community.
 The compensation policy or wage policy should be clearly defined to ensure uniform
and consistent application.
 The compensation plan should be matching with overall plans of the company.
Compensation planning should be part and parcel of financial planning
 Management should inform the wage/salary related policies to their employees.
Workers should be associated in formulation and implementation of wage policy
 All wage and salary related decisions should be checked against the standards set in
advance in the wage/salary policy
 To manage compensation related matters adequate information/data should be
developed and stored for future planning and execution.
 The compensation policy and programme should be reviewed and revised periodically
in conformity with changing need.
EQUITY IN COMPENSATION
Compensation equity is the employee perspective that the pay they received in exchange for
the work demanded was fair and equitable. Equity is a sense of fundamental fairness. In the
context of compensation, financial equity, or compensation equity, is the perception by
employees that they are being paid fairly. The perception of being overpaid or underpaid can
create a sense of inequity in the workplace a sense of unfairness.

Why equity compensation? Or importance of equity in compensation

The major advantage of equity-based compensation is the financial considerations both for
the employer and the employee. It allows employers to offer their employees more – which is
great for the employees – while not affecting their bottom line – which is great for the
employer.

More equity compensation benefits:

 Helps attract and retain talent: It is particularly useful for smaller companies that
are just starting out, allowing them to offer employees a portion of their potential
when they don’t have much cash to hand. So, they can remain on solid financial
ground.
 Attains greater alignment: Employers benefit from the alignment of their
employees’ values with the company’s missions.
 Achieves lower absenteeism: Employees work harder and are more productive as
their performance impact how much they can earn.
 Builds employee engagement: Employees likely generate a feeling of team spirit –
they’re not just employees, they’re employee-owners and can often make valuable
contributions to the company’s direction through shareholder voting.
 Enjoys tax benefits: Both the employer and the employee can enjoy tax benefits
from some approved plans, e.g. qualified ESPP and ESOP
 Help cash-flow management: Equity compensation reduces the amount paid out in
cash, especially ideal for companies with limited cash flow.

ELEMENTS OF EQUITY/DESIGNING EQUITABLE COMPENSATION

SYSTEM/EXTERNAL AND INTERNAL PAY EQUITY/FACTORS:

External equity and internal equity make up the two halves of fair pay. Both are key toward
attracting and retaining top talent, but they require substantially different approaches to
manage.

[Link] equity:

A simple definition of external equity is employee’s perception of the conditions

and rewards of their employment, compared with employees from other firms. External
equity is the term used to describe fair and competitive compensation with respect to the
market value of a job. Considering external equity involves researching alignment to what
competing employers pay to attract and retain employees who have similar skills and
responsibilities as the prospective new hire. Compensation is a tool used by management for
a variety of purposes to further the existence of the company.

[Link] equity:

Equal pay for equal work within the organization. Employers need to establish a
pay structure that meets employees’ equity expectancies. One way is through internal equity,
whereby the system aims to achieve a fair pay differential among all the employees aligned to
each position within the organization. Managing and implementing an internally equitable
pay structure can be delicate and difficult to achieve. As it is often easy for an employee to
know their colleagues’ salaries, fairness is essential when a system is chosen.

To have a successfully established compensation system and to correctly evaluate

the different jobs within an organization, four techniques are available; job ranking, job
classification, point systems and factor comparison. These techniques are adjustable to
different kinds of organization.

Types of Equity Compensation

[Link] Options:

Companies that offer equity compensation can give employees stock

options that offer the right to purchase shares of the companies' stocks at a predetermined
price, also referred to as exercise price. This right may vest with time, allowing employees
to gain control of this option after working for the company for a certain period of time.
When the option vests, they gain the right to sell or transfer the option. This method
encourages employees to stick with the company for the long term. However, the option
typically has expiration.

Employees who have this option are not considered stockholders and do not share the same
rights as shareholders. There are different tax consequences to options that are vested versus
those that are not, so employees must look into what tax rules apply to their specific
situations.

[Link]-Qualified Stock Options (NSOs) and Incentive Stock Options (ISOs)

Additional types of equity compensation include non-qualified stock options

(NSO) and incentive stock options (ISOs). ISOs are only available to employees (and not
non-employee directors or consultants). These options provide special tax advantages. For
example, with non-qualified stock options, employers do not have to report when they
receive this option or when it becomes exercisable.

[Link] Stock:
Restricted stock requires the completion of a vesting period. Vesting may be done all at once
after a certain period of time. Alternatively, vesting may be done equally over a set period of
years, or any other combination that the management of a company finds suitable. Restricted
stock units (RSUs) are similar, but they represent the company's promise to pay shares based
on vesting schedule. This offers some advantages to the company, but employees do not
gain any rights of stock ownership, such as voting, until the shares are earned and issued.

[Link] Shares:

Performance shares are awarded only if certain specified measures are met.4 These could
include metrics, such as an earnings per share (EPS) target, return on equity (ROE), or the
total return of the company's stock in relation to an index. Typically, performance periods
are over a multi-year time horizon.

5.(Cash) deferred bonus plans – SARs & Phantom stock:

A deferred bonus is an equity form that doesn’t really use stock but still rewards
employees with compensation that is tied to the company’s stock performance. So,
participants are not shareholders and don’t have voting rights. Your award depends on the
appreciation of the stock value or the full stock value. Once the vesting period (usually time-
based) is over, participants can get a cash equivalent or the actual stock (less often).

[Link] stock purchase plans (ESPPs):

Usually used by public companies who want to attract, retain, and/or motivate
employees, ESPPs allow participants to purchase stock in their companies at a discount –
often between 5-15% off the fair market value (FMV).The way they do this is by making
contributions directly from employees’ pay checks using after-tax dollars over some time.
Their accumulated contributions are used to buy company shares at the purchase date.

Disadvantages of compensation:

o Some equity compensation increases owners and will dilute the ownership of that
company.
o The company will be liable to take back shares for a limited period.
o If the company doesn’t perform well, it is answerable to many shareholders.
o Some shares don’t bear ownership; if the company issues such a type, it may end up
not selling those stocks.

APPROACHES TO INTERNATIONAL COMPENSATION

There are four basic approaches to determine the international compensation package:

1. Going rate approach

2. Balance sheet approach

3. International citizen’s approach

4. Lump sum approach

1. Going Rate Approach

This is based on the local market rates. It relies on comparisons of survey of the local
nationals, expatriates of same nationality and expatriates of all nationalities’ pay packages. In
this approach, the compensation is based on the selected survey comparison. The base pay
and benefits may be supplemented by additional payments for low pay countries

[Link] Sheet Approach:

The Balance Sheet Approach to international compensation is a system designed to equalize

the purchasing power of employees at comparable position levels living abroad and in the
home country and to provide incentives to offset qualitative differences between assignment
locations. The balance sheet approach is widely used by international organizations to
determine the compensation package of the expatriates. The basic objective is the
maintenance of living standards of the home country plus financial inducement.

Goods and Services: Outlays incurred in the home country for food, personal care, clothing,
household furnishing, recreation, transportation and medical care.

Housing: All major costs associated with housing in the host count…

[Link] citizen’s approach

In this approach to expatriate compensation, an international basket of goods is used for all
expatriates, regardless of country of origin. The basket of goods includes food, clothing,
housing. However, expatriates are not provided salary adjustments that would allow them to
purchase exactly the same items in the host country as in the home country. Rather, they
receive adjustments that would allow them to purchase a comparable local product of the
same nature.

[Link] approach

This involves giving expatriate a predetermined salary and letting the individual decide about
how to spend it. Finally, there is the regional system, under which the MNC sets a
compensation system for all expatriates who are assigned to a particular region.
FRINGE BENEFITS

Fringe benefits are additions to compensation that companies give their employees. Some
fringe benefits are given universally to all employees of a company while others may be
offered only to those at executive levels. Some benefits are awarded to compensate
employees for costs related to their work while others are geared to general job satisfaction.

A fringe benefit is a benefit that an employee receives in addition to their regular salary. It
can include a variety of perks, including:

Health insurance

Subsidized meals

A company phone or laptop

While companies may require some fringe benefits for all team members, employers can also
offer them to specific individuals as rewards. Employers may offer benefits based upon your
industry or the company itself. For example, if you work at a restaurant, you receive free
meals. If you work at an athletic center, you might receive free exercise classes.

TYPES OF FRINGE BENEFITS

Here are some examples of fringe benefits you might encounter with your current or
future employer:
 Stock options:
Stock options allow team members to have ownership in the company. Recipients
can purchase shares at a fixed rate and gain money in stock value as the company
succeeds.
 Free or discounted meals:
Employers might offer free or discounted meals as a fringe benefit. This could include
catered lunches, coffee or discounts on company food offerings.
 Free gym membership:
Free or discounted gym memberships may be a popular fringe benefit if you work in
an athletic store. If your company has an in-house gym, they might also provide you
with free gym access.
 Transportation assistance:
If you commute to work, your employer might offer you transportation assistance,
including reimbursement for buses, trains, parking or gas. If your position requires
frequent travel, your employer might offer access to a company-owned vehicle.
 Tuition reduction or assistance:
 Some employers might offer you help pay for your tuition via tuition reduction or
assistance. Advanced degrees are a smart investment for employers as they can
improve team member skills set and the quality of their work.
 Life, dental or vision insurance:
Some employers offer their employees various forms of insurance. The type of
insurance and the coverage plans available may vary to suit different team members'
needs.
 Childcare reimbursement:
Some employers offer to pay for some or all of your childcare costs during the time
you're at work. Others offer childcare on-site.
 Unlimited paid time off (PTO):
While some employers offer a set number of PTO days, others offer unlimited PTO
days for team members who consistently meet management expectations for work.
 Discounted amusement park tickets:
Discounted tickets to theme parks are a useful fringe benefit for employees who
enjoy visiting various amusement parks with friends or family. This is a great way for
employers to show they believe in a healthy work-life balance.
 Retirement plan contributions:
An employer-contributed 401(k) plan helps you save for retirement. When employers
match or make qualified contributions to your 401(k) plan, you can see an increase in
the amount of your overall retirement.
 Company cell phone:
If your position requires you to make many calls, employers might offer a company
cell phone. This can save you money on monthly usage costs and the price of the
phone itself.
 Moving expenses:
Your employer might offer relocation assistance to offset the cost of moving for a job
if you don't yet live in the area.
 Free or discounted lodging:
Employers might offer free or discounted lodging at a hotel or similar establishment
if you travel on the job. For example, if you're speaking at a conference in a different
city, your employer might pay for your stay at a hotel.
 Paid sick days:
It's common for most employers to offer a certain number of paid sick days per year
for the times when you are ill. These days are in addition to other forms of paid time
off.

RETIREMENT BENEFITS

Pension

The minimum eligibility period for receipt of pension is 10 years. A Central

Government servant retiring in accordance with the Pension Rules is entitled to receive
superannuation pension on completion of at least 10 years of qualifying service.

In the case of Family Pension the widow is eligible to receive pension on death of her
spouse after completion of one year of continuous service or before even completion of
one year if the Government servant had been examined by the appropriate Medical
Authority and declared fit for Government service.

I.e. 1.1.2006, Pension is calculated with reference to average emoluments namely, the
average of the basic pay drawn during the last 10 months of the service or last basic pay
drawn whichever is beneficial. Full pension with 10/20 years of qualifying service is
50% of the average emoluments or last basic pay drawn whichever is beneficial. Before
1.1.2006, for qualifying service of less than 33 years, amount of pension was
proportionate to the actual qualifying service broken into completed half-year periods.
For example, if total qualifying service is 30 years and 4 months (i.e. 61 half-year
periods), pension will be calculated as under:-

Pension amount = R/2(X)61/66

where R represents average reckonable emoluments for last 10 months of qualifying

service or the last pay drawn as opted by the govt servant.

Minimum pension presently is Rs. 3500 per month. Maximum limit on pension is 50%
of the highest pay in the Government of India (presently Rs. 45,000) per month. Pension
is payable up to and including the date of death.

Commutation of Pension

A Central Government servant has an option to commute a portion of pension, not

exceeding 40% of it, into a lump sum payment with effect from 1.1.1996. No medical
examination is required if the option is exercised within one year of retirement. If the
option is exercised after expiry of one year, he/she will have to under go medical
examination by the specified competent authority.

Lump sum payable is calculated with reference to the Commutation Table constructed
on an actuarial basis. The monthly pension will stand reduced by the portion
commuted and the commuted portion will be restored on the expiry of 15 years from
the date of receipt of the commuted value of pension. Dearness Relief, however, will
continue to be calculated on the basis of the original pension (i.e. without reduction of
commuted portion).

The formula for arriving for commuted value of Pension (CVP) is

CVP = 40 % (X) Commutation factor* (X)12

* The commutation factor will be with reference to age next birthday on the date on
which commutation becomes absolute as per the New Table as Annexure to this Deptt's
Death/Retirement Gratuity

Retirement Gratuity
This is payable to the retiring Government servant. A minimum of 5 years qualifying
service and eligibility to receive service gratuity/pension is essential to get this one time
lump sum benefit. Retirement gratuity is calculated @ 1/4th of a month�s Basic Pay
plus Dearness Allowance drawn before retirement for each completed six monthly
period of qualifying service. There is no minimum limit for the amount of gratuity. The
retirement gratuity payable is 16� times the Basic Pay, subject to a maximum of Rs. 10
lakhs.

Death Gratuity
This is a one-time lump sum benefit payable to the widow/widower or the nominee of a
permanent or a quasi-permanent or a temporary Government servant, including CPF
beneficiaries, dying in harness. There is no stipulation in regard to any minimum length
of service rendered by the deceased employee. Entitlement of death gratuity is regulated
as under:

Qualifying Service Rate

Less than one year 2 times of basic pay
One year or more but less than 5 years 6 times of basic pay
5 years or more but less than 20 years 12 times of basic pay
20 years of more Half of emoluments for every completed 6
monthly period of qualifying service
subject to a maximum of 33 times of
emoluments.

Maximum amount of Death Gratuity admissible is Rs. 10 lakhs w.e.f. 1.1.2006

Service Gratuity
A retiring Government servant will be entitled to receive service gratuity (and not
pension) if total qualifying service is less than 10 years. Admissible amount is half
months basic pay last drawn for each completed 6 monthly period of qualifying service.
There is no minimum or maximum monetary limit on the quantum. This one time lump
sum payment is distinct from and is paid over and above the retirement gratuity.

Issue of No Demand Certificate

Dues owed by the retiring employees on account of Licence Fee for Government
accommodation, advances, over payment of pay and allowances are required to be
assessed by the Head of Office and intimated to the Accounts Officer two months in
advance of the date of retirement so that these are recovered from retirement gratuity
before payment. For this purpose the Licence Fee for those in occupation of
Government accommodation is taken into account up to the end of the permissible
period for which accommodation can be retained after retirement under the Rules on
normal rent. The recovery of Licence Fee beyond that period is the responsibility of the
Directorate of Estates. If, for any reason final dues cannot be assessed on time, then
10% of gratuity is withheld from gratuity

General Provident Fund and Incentives

As per General Provident Fund (Central Services) Rules, 1960, all temporary
Government servants after a continuous service of one year, all re-employed pensioners
(Other than those eligible for admission to the Contributory Provident Fund) and all
permanent Government servants are eligible to subscribe to the Fund. A subscriber, at
the time of joining the fund is required to make a nomination, in the prescribed form,
conferring on one or more persons the right to receive the amount that may stand to his
credit in the fund in the event of his death, before that amount has become payable or
having become payable has not been paid. A subscriber shall subscribe monthly to the
Fund except during the period when he is under suspension. Subscriptions to the
Provident Fund are stopped 3 months prior to the date of superannuation. Rates of
subscription shall not be less than 6% of subscribers emoluments and not more than his
total emoluments. Rate of interest on GPF accumulations with effect from 1.4.2009 is
8% compounded annually and the rate of interest will vary according to notifications of
the Government. The Rules provide for drawls of advances/ withdrawals from the Fund
for specific purposes.

Deposit Linked Insurance Revised Scheme

Under the GPF Rules, on the death of subscriber, the person entitled to receive the
amount standing to the credit of the subscriber shall be paid an additional amount
equal to the average balance in the account during the 3 years immediately preceding
the death of the subscriber subject to certain conditions provided in the relevant Rule.
The additional amount payable under that Rule shall not exceed Rs. 60,000/-. To get this
benefit, the subscriber should have put in at least 5 years service at the time of his/her
death.

Contributory Provident Fund

The Contributory Provident Fund Rules (India), ,1962 are applicable to every non-
pensionable servant of the Government belonging to any of the services under the
control of the President. A subscriber, at the time of joining the Fund is required to
make a nomination in the prescribed Form conferring on one or more persons the right
to receive the amount that may stand to his credit in the Fund in the event of his death,
before that amount has become payable or having become payable has not been paid.

A subscriber shall subscribe monthly to the Fund when on duty or Foreign Service but
not during the period of suspension. Rates of subscription shall not be less than 10% of
the emoluments and not more than his emoluments. The employer contribution at that
percentage prescribed by the Government will be credited to the subscribers account
and this is 10%. Rate of interest with effect from 1.4.2009 is 8% compounded annually.
The Rules provide for drawls of advances/ withdrawals from the CPF for specific
purposes. As in GPF Rules, the CPF Rules also provide for Deposit Linked Insurance
Revised Scheme.
Leave Encashment

Encashment of leave is a benefit granted under the CCS (Leave) Rules and not a
pensionary benefit. Encashment of Earned Leave/Half Pay Leave standing at the credit
of the retiring Government servant is admissible on the date of retirement subject to a
maximum of 300 days. There is no provision under the Rule for payment of interest on
delayed payment of Leave Encashment.

Central Government Employees Group Insurance Scheme

A portion of monthly contributions paid while in service is credited in a Saving Fund,

on which interest accrues. A Government servant while entering service has to apply in
Form No. 4 of the above Scheme to the Head of Office, who shall issue a sanction for the
payment of subscribers accumulation in the Savings Fund segment together with
interest and arrange for its disbursement, soon after retirement. Payments under this
Scheme are made in accordance with the Table of Benefit which takes in to account
interest up to the date of cessation of service. Insurance cover benefit under this Scheme
is available to the family in the event of death of the subscriber. No interest is payable
on account of delayed payments under this Scheme.

BENEFITS TO EMPLOYEES: STATUTORY AND VOLUNTARY BENEFITS

Various benefits provided to the employees may be classified on different bases. One
classification may be in terms of statutory and voluntary benefits. Various benefits provided
to employees under these two categories are discussed hereunder.
1. Statutory Benefits:
These benefits are mandatory provided under the provisions of various Acts as discussed
below:
(1) The Factories Act,
This Act covers areas including health, welfare, safety, working hours, leave with wages, etc.
The various benefits provided under the Act include:
(i) No worker (adult) shall be required to work in a factory for more than 48 hours in any
week (Section 51);
(ii) The working hours shall be kept restricted to 9 hours on any day (Section 54);
(iii) An adult worker shall have weekly paid holidays, preferably Sunday;
(iv) A worker deprived of weekly holidays, is eligible for compensatory holiday of the same
number in the same month;
(v) Provision for double salary to the workers working during holidays; and
(vi) Provision for canteen employing more than 250 workers and creches where more than 30
women employees are working.
(ii) The Mines Act, 1952:
Apart from provision for canteen and creches, the Mines Act, 1952 specifies that there should
be provision for first-aid boxes and first-aid rooms in mines employing more than 150
workers and appointments of a welfare officer in mines employing more than 500 workers.
iii) The Plantation Labour Act, 1951:
Appointment of a Welfare Officer in Plantations employing 300 or more workers is also
specified in the Act. Besides, workers who worked for 240 days during a calendar year are
eligible for paid vacation at the rate of one day for every 20 days worked in case of adult
works and at the rate of one day for every 15 days worked in case of child workers.
(iv) The Motor Transport Workers Act, 1961:
Under this Act also, provisions for canteen, rest rooms, uniform, raincoats, medical facilities,
etc., are made. First-aid facilities equipped with the prescribed contents are to be provided in
every transport vehicle.
(v) Employees’ State Insurance Act, 1948:
This Act deals comprehensively about the health benefits to be provided to the employees,
working in factories, establishments running with power and employing 20 or more workers.
The main benefits provided under this Act include sickness benefit for 56 days in a year,
maternity benefit, disablement benefit, dependent’s benefit, medical benefit, etc..
(vi) Workmen’s Compensation Act, 1923:
In addition to safety and health measures, provision for the payment of compensation has also
been made under this Act. The Act covers the employees whose wages are less than Rs. 500
per month. Amount of compensation depends on nature of injury and the monthly wages of
employee. In case of death of the employee, his defendants are eligible for compensation.
2. Voluntary Benefits:
Voluntary benefits are determined and provided by the individual organizations at their own.
These benefits may include educational facilities, transportation facilities, housing facilities,
recreational facilities, consumer cooperative societies, subsidized lunch/refreshment, child
care,etc. Since providing these facilities is obligatory on the part of employers, hence the
level and degree of facilities provided vary across the organizations.
U.S. Chamber of Commerce has classified employee benefits into five categories as follows:
1. Legally – required payments:
(i) Old age pension
(ii) Disability pension
(iii) Unemployment insurance
(iv) Worker’s compensation
2. Contingent and deferred benefits:
(i) Pension Plans
(ii) Group life insurance
(iii) Maternity leave
3. Payment for time not worked:
(i) Vacation
(ii) Holidays
(iii) Voting Pay Allowance
4. Paid rest periods:
(i) Waste-up time
(ii) Lunch periods.
5. Christmas Bonus:

TAX ASPECTS
The Income Tax Act allows various Income Tax Exemptions for Salaried Employees which
are very effective in saving taxes. A salaried employee would be required to intimate his
employer that he is claiming these income tax exemptions available for Salaried Employees
and then the Employer would compute the Tax on the balance income as per the Income Tax
Slabs and deduct TDS on Salary accordingly.

The TDS deducted from Salary Income is reflected in the Form 16 which is required to be
given by the employer to all his employees for deduction of TDS during the financial year.
The TDS so deducted is also reflected in the Form 26AS which can be downloaded online by
the employees themselves

Income Tax Exemptions for Salaried Employees

The various Income Tax Exemptions for Salaried Employees have been mentioned below.
These Income Tax Exemptions for Salaried Employees are highly advisable to everyone as
they help in saving tax legally thereby reducing the tax burden on the Salaried Employee.

For a detailed view on each Income Tax Exemption for Salaried Employees, kindly refer the
link attached in the following points..

1. HRA Exemption for Salaried Employees

Many employers give House Rent Allowance (HRA) to their employees for them to reside at
a good place. A portion of the House Rent Allowance given by an employer to an employee
is exempted from the levy of the Income Tax and Income Tax is only levied on the remaining
part. HRA Exemption is one of the most useful income tax exemptions for Salaried
Employees as it can be easily claimed and the amount of exemption allowed is also large.
2. Income Tax Exemption on Leave Travel Allowance

Many employers also give allowances to their employees to go on a vacation with their
respective families. The amount given by the employer to an employee to go on a vacation is
exempted from the levy of tax to a certain extent provided that the amount given was for a
vacation in India only. Leave Travel Allowance is also an effective income tax exemption for
Salaried Employees. However, this amount can only be claimed if the employee actually goes
on a vacation as bills for the same would be required to be furnished.

3. Exemption on Encashment of Leaves for Salaried Employees

Most employers give all their employees a certain no. of days which can be claimed as
leaves. However, in case a person does not claim these leaves, many employers also give
their employees the option for en-cashing these leaves i.e. the employers pays extra to the
employees for the leaves which were allowed to be taken but were not taken. This amount
received as Leave Encashment is also allowed to be claimed as an exemption up to a certain
extent.

4. Tax Exemption from Pension Income for Salaried Employees

On retirement of an employee, many employers pay a pension to their employees.

Sometimes, the employer pays pension from his own pocket and in some cases, the employer
purchases an annuity and then the pension is being paid by the organisation from whom the
annuity has been purchased. The Pension can be of 2 types i.e. Commuted and Uncommuted.
In commuted pension, the whole amount of pension is received in lump-sum whereas in
Uncommuted Pension, the amount is paid in instalments at regular intervals. Irrespective of
the type of Pension, Income Tax Exemption is given in both types of pensions up to a certain
limit.

5. Income Tax Exemption on Gratuity for Salaried Employees

Gratuity is a gift made by the employer to his employee in appreciation of the past services
rendered by the employee. Gratuity can either be received by:

1. The employee himself at the time of his retirement

2. The legal heir at the time of the death of the employee

For the purpose of computing Income Tax Exemptions for Salaried Employees who have
received gratuity, the employees can be segregated into 3 parts and then the exemption is
allowed depending on the category they are into:-

1. Govt. Employees and employees of Local Authorities

2. Employees covered under the Payment of Gratuity Act, 1972

3. Employees not covered in any of the 2 above.

For income tax exemption on the amount received as Gratuity, kindly refer this link.
6. Income Tax Exemption on VRS Received

Many employees opt for Voluntary Retirement before the actual age of retirement (i.e. 60
years). In such cases, the employer sometimes gives some money to the employee on his
voluntary retirement. The amount received or receivable by the employee on voluntary
retirement under the golden handshake scheme is exempted under Section 10(10C) For
computation and tax on amount received as VRS, kindly refer this link.

7. Income Tax Exemption for Perquisites

Some employers also give their employees various perquisites/facilities like Car, Mobile
phones, Rent Free accommodation. Such perquisites are not fully tax free. A specific value of
such facilities is allowed as an exemption and value of the balance facilities allowed is
allowed as an exemption.

8. Exemption of Various Allowances

Various other allowances like Transport Allowance, Children Education Allowance are also
allowed as Income Tax Exemptions to Salaried Employees but only up to a certain limit.

Relevant Points regarding Income Tax Exemptions for Salaried Employees

1. The above stated 8 Income Tax Exemptions for Salaried Employees are the most useful
exemptions. However, there are various other exemptions as well but are not commonly used.

2. The above stated income tax exemptions are only available to Salaried Employees.
However, there are various other ways of saving taxes as well which are available to all
categories of taxpayers like Benefit of Interest on Home Loan, Income Tax Deductions from
Sec 80C to 80U, Capital Gains Exemption under Section 54 etc