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December 31, 2020

Take home salaries may reduce from next year due to new Wage Code

by CA Shivam Jaiswal in Compliance Law

Take home salaries may reduce from next year due to new Wage Code

Take-home salaries of employees may reduce starting next year as companies will need to restructure pay packages after the government notifies draft rules under the new wage rule. The compliance with the labour law legislations in India is a complex and cumbersome process and is often regarded as a holdup in ease of doing business. Rationalization of labour laws was a longstanding industry demand.

The Second National Commission on Labour Laws had recommended that the existing set of labour laws should be broadly divided and grouped into the four groups. Acting on the recommendations, the Union Government has proposed to enact four labour codes, subsuming 29 labour law legislations. The Code on Wages, 2019 (Wage Code) was the first of the lot to get the legislative approval and subsequently, the assent of the President of India. Along with the other three codes on industrial relations, social security and occupational health safety and working conditions, the implementation of the Code on Wages is planned from 1st April, 2021.

What do you mean by wages according to the new Wage Code?

  • The government came out with new compensation rules to increase the social security benefits for employees.
  • According to the new wage definition, at least 50% of the gross remuneration of employees should form the basis to calculate benefits such as gratuity, retrenchment compensation and provident fund, etc, in situations where the sum of basic salary and other fixed allowances (such as dearness allowance) is less than 50% of the gross remuneration.

Lower ‘take home pay’ due to new Wage Code

Take-home pay is the net amount of income received after the deduction of taxes, benefits, and voluntary contributions from a pay check. It is the difference between the gross income less all deductions. 

The government has put a cap on the allowances at 50% of the total compensation. Therefore, this will entail higher costs for employers and a lower take home pay for employees. The take home pay of the employees will thus take a hit.

In order to abide by the new rule, employers will now have to increase the proportion of the basic pay leading to an increase in the Provident Fund (PF) and gratuity contribution on part of both the worker and the employer.

Presently, the contribution towards social security is at 12% for both the employer and the employee. Take home pay is expected to go down by 4 to 10% as the contribution towards retirals such as PF and gratuity will go up.

Employers will need a restructuring of current offers and compensation structures. Financially, higher deductions towards PF and Gratuity will eventually be borne by the employee. For most employees, this will be a hit on their net take home salary. For the mid and high-income groups, impact will still be contained. For many of these people, it will mean a lower contribution towards Public Provident Fund and National Pension System.

Many private companies prefer to keep the allowances component higher and the basic salary lower. This will not be allowed under the new rules. However, it is to be noted that any change in the compensation of employees has to be captured in the employment letter. So now every employer will have to give new employment letters with new breakups.

The new wage definition is an attempt to simplify the various regulations related to wages with the promise of easier implementation. A lot of laws that had their own definition of Wages have been consolidated under the Labour Codes. There were different definitions under Minimum Wages Act, Provident Fund Act, Bonus Act, etc. All of these laws were meant to extend certain benefits to employees or give them certain rights. This is an attempt to make the definition of wages uniform, as proposed in the Wage Code, 2019 which has been duplicated in the other Codes as well.

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