NEW WAGE CODE & IT’S IMPACT ON BOTH EMPLOYEES AND EMPLOYERS

(Implementation Deferred)

 

The need for modernization in the labour sector reforms is immense. The definition of wages had not changed in the last 73 years with different laws imposing their own definition of wages, thereby increasing compliance costs, and it was almost imperative to have a unified universal definition for ease of doing business. The Code on Wages, 2019 was introduced in Lok Sabha by the Minister of Labour, Mr Santosh Gangwar on July 23, 2019. After being passed in both the Houses of Parliament, it got the President’s assent on the 8th of August 2019. The Code seeks to regulate wages and bonus payments in all employment areas where any industry, trade, business, or manufacturing activity is carried out.

 

The government has attempted to bring in simplicity through the new common definition of wages in this Code and three other Codes that were passed. Under the subsumed laws, there were different definitions of wages for provident fund, gratuity etc. However, now under the New Wage Code, which which now has been deferred, there is a common definition of wages. This new definition of wages covers all salary components expressed in terms of money or capable of being so expressed.

 

The Code replaces the following four laws:

 

(i) the Payment of Wages Act, 1936,

(ii) the Minimum Wages Act, 1948,

(iii) the Payment of Bonus Act, 1965, and

(iv) the Equal Remuneration Act, 1976.

 

The Code on Wages is still in its nascent age, with its applicability slated to be notified soon. There is a lot of confusion regarding the provisions of the Code on Wages, and how it will impact you as an employee as well as an employer. Let us look at the same in detail:

 

The changes for you, if you’re an employee:

 

Over the years, private organizations have been paying a greater share of salary through ‘allowances’. The average range for Basic Pay within the private sector is between 25-40 per cent of the Cost to the Company (CTC). According to the Code of Wages 2019, the Basic Pay of an employee has to be 50 per cent of the gross salary or cost-to-company (CTC). At the moment, most companies give employees a lower percentage of basic pay while keeping the number of allowances higher. Now how does that impact you as an employee?

 

Let us take an example: Consider yourself earning a salary of Rs 20,000 monthly. The component of Basic Pay is Rs 8,000 while the remaining is covered by various allowances. In this case, your (employee’s) PF contribution would be at 12 per cent of Basic pay, that is Rs 960. However, when the New Wage Code is applied; the Basic Pay would rise to Rs 10,000 as a consequence of the mandatory minimum 50% of the CTC as is required in the Code. Allowances would be reduced to a share of Rs 10,000. But your (employee’s) PF contribution, in this case, shall rise from Rs 960 to Rs 1200. Thus your take-home salary will decrease by Rs 240 in this case. At the same time, your retirement benefits will be higher as the monthly contribution towards provident fund and gratuity will increase.

 

The new definition of wages will specifically impact gratuity too. For all the current and future employees, gratuity will now be payable under the new definition of wages. Another change is regarding the period considered for eligibility to gratuity. For fixed-term employees, the earlier criterion of a minimum of five years of service has now been reduced to one year. This means that now fixed-term employees will be eligible for gratuity just after one year of serving an organization. This, however, does not apply to permanent employees who are not employed for a fixed period. Permanent employees will continue to be eligible for gratuity after five years of service.

 

The change in basic wage will also result in a change in contribution towards PF in cases where the employer is contributing towards PF on the actual basic salary rather than the minimum required contribution of 12% of ₹15,000 (the minimum wage for PF contributions). A higher PF contribution will lead to lower in-hand pay in that case.

 

Let’s take another example: Consider that your salary is Rs 1,00,000 and the current basic wage is Rs 40,000. Then at 12% each, the employee and employer would be contributing ₹4,800 each towards PF. The in-hand salary would then be ₹90,400. But if the Basic Pay rises to ₹50,000 after complying with the definition of the New Wage Code, then the take-home will reduce to ₹88,000 that is ₹2,400 less.

 

There will be an impact of salary restructuring on tax liabilities as well. But that will have to be assessed individually. We’re expecting that those in a higher salary bracket will pay more tax as the tax planning option would be limited to 50% of cost-to-company (CTC), whereas those in a lower bracket will be safeguarded through higher contributions for retirement and lower taxes. As contributions towards PF will go up, one would be able to claim the higher deductions. Increase in statutory contributions like PF may lead to a reduction in tax liability, if you have not already utilized your Section 80C limit.

 

As the Basic Pay will go up, the tax deduction to be claimed under house rent allowance (HRA) may also go down in some cases as HRA can be claimed as the minimum of three—actual received, actual rent paid minus 10% of the basic salary or 50% of the basic in case of metro cities and 40% in case of non-metro.

 

To summarize, the impact on your take-away salary will be the biggest as far as this New Wage Code is concerned. The impact will be less for lower and medium salaried employees, and much more for higher salaried employees. But in both the cases, the motive behind the New Wage Code is to leave more as retirement benefits, which becomes critical in these turbulent times.

 

The changes for you, if you’re an employer:

 

The first big change for you as an employer would be to restructure your employees' existing pay structure. This may require you to avail consulting services from financial and legal experts to decide on a pay structure that is beneficial for you as well as for your employees. Although the New Wage Code does not mandate any changes to the CTC offered by the employers, it becomes prudent to decide whether any increment or decrement will be beneficial for employees especially where the employment base is of long duration, and compensation cost set to increase.

 

 

The wage bill cost for companies is slated to increase more than before. The New Wage Code has provisions for a retrospective increase in gratuity and leaves encashment liabilities and additional provident fund (PF) contributions.

 

Provident Fund contributions will increase if organizations adopt the expanded definition of wages as earlier PF was calculated only on Basic Pay and Dearness Allowances. Gratuity will undergo certain changes too as per the New Wage Code. Under the new definition, gratuity will have to be calculated based on a larger base, including basic pay as well as other allowances of wages such as travel, special allowance, etc. Organizations have to pay gratuity as an amount equaling 15 days of last drawn basic wage for each year of service. So, an increase in basic wage will increase gratuity paid.

 

 

If the basic pay to gross pay ratio of your employee pay structure is currently 0.3:1, and it is restructured to 0.5:1, then we expect the liabilities on account of the components of pay structure to nearly double.

 

This may lead you to take a review of the salary increment budgets for 2021. In these turbulent times, when working capital requirements of the organizations are going up, because of less revenue, this will pose as a definite challenge.

 

-       Finsurety Advisors LLP