What Counts as "Wages" for PF, ESI and Gratuity — and the 50% Rule

Quick answer

Contribution rates did not move when the Labour Codes commenced on 21 November 2025. The base did. The first proviso to section 2(y) of the Code on Wages pulls excluded allowances back into wages once they exceed one-half of total remuneration — so a structure that pushed basic down and allowances up no longer produces a low provident-fund base. And ESI runs a completely different wage test, in which HRA is wages and the operative question is whether a payment's periodicity exceeds two months.

Who this is for

Anyone who designed a salary structure before November 2025 and has not re-tested it. Finance teams reconciling why the PF base moved when nobody changed a rate. HR teams asked whether a new allowance is "PF-able" and "ESI-able" and finding that the two answers differ. And any founder about to write an offer letter with a long list of allowances in it.

The payroll compliance guide covers the whole monthly cycle. This article is about one thing: the number the percentages are applied to.

Start with what actually changed

All four Labour Codes were brought into force on 21 November 2025. For payroll, that means:

• Provident fund now sits in Chapter III of the Code on Social Security, 2020, administered through the Employees' Provident Funds Scheme, 2026 (G.S.R. 525(E), 29 June 2026), which was made "in supersession of the Employees' Provident Funds Scheme, 1952". The Employees' Pension Scheme, 2026 and the Employees' Deposit-Linked Insurance Scheme, 2026 replaced the 1995 and 1976 schemes on the same day.
• ESI sits in Chapter IV, with contribution rates now in rule 19 of the Social Security (Central) Rules, 2026 (G.S.R. 344(E), 8 May 2026), which superseded twelve earlier rule-sets including the ESI (Central) Rules, 1950.
• Payment of wages, permitted deductions and the definition of wages come from the Code on Wages, 2019.

The rates are unchanged. PF is 12% and 12%. ESI is 3.25% and 0.75%. The PF wage ceiling is ₹15,000, re-notified under the Code by S.O. 2702(E) on 29 May 2026.

Do not write that the Codes "will come into force" or are "expected". They are in force. Also do not write that the transition is finished — the ESI (General) Regulations, 2026 were still a draft out for objections as at 19 August 2026, so the 1950 Regulations continue meanwhile under the savings provision in section 164(2)(a). Both statements would be wrong, in opposite directions.

Section 2(y): what wages are, and what they are not

The definition has three moving parts, and most summaries stop after the first.

Part one — what is in. Wages means all remuneration, whether by way of salary, allowances or otherwise, expressed in terms of money or capable of being so expressed, and includes basic pay, dearness allowance and retaining allowance.

Part two — what is out. The definition then excludes:

Part three — and this is the part that changed everything. The first proviso:

Provided that, for calculating the wages under this clause, if payments made by the employer to the employee under clauses (a) to (i) exceeds one-half, or such other per cent. as may be notified by the Central Government, of the all remuneration calculated under this clause, the amount which exceeds such one-half, or the per cent. so notified, shall be deemed as remuneration and shall be accordingly added in wages under this clause.

Read it slowly. It takes the first nine exclusions — (a) through (i), so everything down to commission but not gratuity or retrenchment compensation — adds them up, and compares the total against one-half of all remuneration. Whatever exceeds that half is deemed to be remuneration and added back into wages.

The effect is arithmetic, not discretionary. A structure that pushed basic pay down to 30% of the package and loaded the rest into allowances no longer produces a low statutory base. The excess corrects itself.

Two further pieces sit alongside the proviso.

The second proviso pulls four exclusions back in for two specific purposes. For equal wages across genders, and for the payment-of-wages provisions, the emoluments in clauses (d) conveyance, (f) HRA, (g) award or settlement remuneration and (h) overtime are taken into computation. So the same allowance can be outside "wages" for contribution purposes and inside it for equal-pay and payment-of-wages purposes. That is not a drafting accident; it is the Code deliberately using a narrower base for contributions and a wider one for fairness and timeliness.

The Explanation deals with payment in kind: remuneration in kind, up to 15% of total wages, is deemed to be part of wages.

And the parallel that drives PF and gratuity. The Code on Social Security carries a materially similar definition at section 2(88), so the same add-back logic reaches provident fund and gratuity. We describe that parallel qualitatively rather than quoting it, because section 2(88) was not re-read line by line in the capture this article rests on — and a quotation we have not verified is exactly the kind of thing this site does not publish.

The 50% rule, worked out

Take three structures at the same total monthly remuneration of ₹1,00,000. All figures are monthly.

Structure A — allowance-heavy, the pre-Code default

Exclusions under (a)–(i) total ₹70,000. One-half of all remuneration is ₹50,000. The excess is ₹20,000, and that ₹20,000 is deemed remuneration and added into wages.

Wages = ₹30,000 + ₹20,000 = ₹50,000. Not ₹30,000.

The structure was designed to produce a ₹30,000 base. It produces ₹50,000, because the proviso is arithmetic.

Structure B — the same package, restructured

Exclusions total ₹50,000, which is exactly one-half. Nothing exceeds it, so nothing is added back. Wages = ₹50,000.

Same statutory base as Structure A — and no add-back to explain to anyone. The lesson is not that Structure B is cheaper; it is that the two structures produce the same wages figure, so the elaborate one bought nothing.

Structure C — a genuinely low base

Exclusions total ₹40,000, below the ₹50,000 half. No add-back. Wages = ₹60,000.

Higher basic, higher wages, higher PF and gratuity. Which is the point: once excluded components fall below half, the base is simply your basic-plus-DA, and there is no lever left to pull. The floor is one-half of remuneration.

Two things to notice about all three.

1. Wages can never be less than half of remuneration, once the proviso is applied to a structure where exclusions would otherwise exceed half. The proviso sets a floor.
2. Nothing above is affected by the PF ceiling yet. That comes next, and for a ₹1,00,000 package it changes the answer entirely.

What the PF ceiling then does

Paragraph 18(3) of the EPF Scheme, 2026 limits the contribution to the amount payable on the wage ceiling, which S.O. 2702(E) fixed at ₹15,000 per month.

So for every one of the three structures above, the statutory minimum contribution is computed on ₹15,000, not on ₹50,000 or ₹60,000:

• Employer's PF contribution: 12% of ₹15,000 = ₹1,800
• Employee's PF contribution: 12% of ₹15,000 = ₹1,800
• Of the employer's share, to the Pension Fund: 8.33% of ₹15,000 = ₹1,250 (Employees' Pension Scheme, 2026, paragraph 4(1))
• Balance of the employer's share to the Provident Fund: ₹1,800 − ₹1,250 = ₹550

Which is why the 50% rule bites hardest at lower salary levels, not higher ones. For an employee on ₹1,00,000 the ceiling flattens the difference. For an employee on ₹25,000 whose structure pushed basic to ₹9,000, the add-back can lift wages above ₹15,000 and change the contribution materially — and it is the lower-paid half of a workforce where that happens.

Three related rules on the ceiling worth knowing:

• Excluded employee. Under the first proviso to section 2(26) and paragraph 2(1)(f) of the Scheme, an employee whose wages exceed the ceiling at the time they would otherwise become a member is an "excluded employee". Existing members stay members even if wages later rise (paragraphs 9(1) and 10(1)).
• Contributing above the ceiling is possible, by joint option. Paragraph 9(4) lets employee and employer jointly opt in writing; the employer then also pays administrative charges on those wages. Paragraph 19 separately allows a voluntary employee contribution above the ceiling, which the employer is not obliged to match.
• Coverage counting is different from contribution. The second proviso to section 2(26) requires employees earning more than the ceiling to be counted when deciding whether the establishment is covered at all. Twenty people on ₹80,000 each is a covered establishment.

Paragraph 18(4) computes contributions on wages actually drawn or payable during the month, and paragraph 18(5) rounds to the nearest rupee, with 50 paise or more rounding up.

ESI runs a different test entirely

This is the part that catches even careful payroll teams: ESI does not use the Code on Wages exclusion list. It has its own, published by ESIC as a consolidated instruction, and the recurring principle in it is periodicity.

The two-month periodicity test is the single most useful rule of thumb here. Pay something monthly and it is generally ESI wages. Pay the same amount quarterly or annually and it generally is not. That is a real planning point, and it is also a real trap: renaming a monthly allowance does nothing; changing its periodicity changes its treatment.

The rates and the rounding. Rule 19(1)(a) sets the employer's contribution at "three and one-fourth per cent." of the wages payable, and rule 19(1)(b) the employee's at "three-fourth per cent." — each rounded to the next higher rupee. That is the opposite convention from PF, which rounds to the nearest. One payslip, two rounding rules.

Two reliefs to know. Rule 19(2) relieves the employer of its share for up to three years from the commencement of the contribution period in respect of an employee who is a person with disability under the Rights of Persons with Disabilities Act, 2016 or the National Trust Act, 1999, with rule 19(3) providing for Central Government reimbursement to the Corporation. And ESIC publishes that employees on a daily average wage up to ₹176 are exempt from paying their own contribution — the employer still pays its share for them.

The wage limit, stated honestly. ESIC publishes the coverage limit as ₹21,000 per month, and ₹25,000 for a person with disability, effective from 1 January 2017. Under the Code, the Chapter IV "employee" test turns on a wage ceiling notified under section 2(89) — and the only such notification we located, S.O. 2702(E), is expressly for the purposes of Chapter III. No Chapter IV notification was found, and the Social Security (Central) Rules, 2026 do not prescribe one. So the ₹21,000 appears to continue by force of the savings provision in section 164(2)(a). We state it as ESIC's operating limit, with the source, and we do not assert a statutory basis under the Code that we have not verified. For a marginal employee, check ESIC's own page.

And what it all does to gratuity

Section 53(2) of the Code on Social Security sets gratuity at 15 days' wages for every completed year of service, or part in excess of six months, on the rate of wages last drawn.

So the base for gratuity is the same wages figure the 50% add-back produces. Two consequences follow, and the second is the uncomfortable one:

1. An allowance-heavy structure raises the gratuity liability, because the add-back raises "wages last drawn".
2. It does so across every year of service for anyone who leaves after the change, because the quantum is computed on wages last drawn multiplied by years of service — not year by year on historical wages.

The conventional monthly provision is 15/26 ÷ 12 ≈ 4.81% of wages. That is a provisioning convention, not a statutory rate, and it applies to wages after the add-back. Gratuity under the Social Security Code works through the whole section — the five-year rule and its exceptions, fixed-term pro rata, forfeiture, and the honest position on the ceiling.

The deduction rules that constrain what you can recover

Restructuring often runs into these, so they belong here.

Section 18(2) of the Code on Wages sets a closed list of permitted deductions: fines; deduction for absence from duty; damage or loss; house accommodation; amenities and services; recovery of advances or overpaid wages; house-building or other loans; income tax and other statutory levies (18(2)(h)); provident fund, pension and health insurance subscriptions (18(2)(i)); co-operative society dues; union subscriptions with written authorisation; and contributions to the Prime Minister's National Relief Fund with written authorisation.

Section 18(3) is the cap: total deductions in any wage period may not exceed 50% of wages. Section 18(4) provides for recovery of an excess in the prescribed manner.

Section 18(5) is the one every employer should know: where the employer deducts but does not deposit into the fund or the Government account, the employee is not responsible for that default. The exposure sits entirely with the employer.

Two dates from the same Code, because they interact with any restructure: section 16 requires a wage period to be fixed and provides that no wage period may exceed a month; section 17(1)(iv) requires monthly-paid wages to be paid before the expiry of the seventh day of the succeeding month; and section 17(2) requires full and final settlement within two working days of removal, dismissal, retrenchment, resignation or unemployment due to closure.

One more definitional point that occasionally matters: section 2(z)(d) puts a person employed in a supervisory capacity drawing wages exceeding ₹15,000 per month (or as notified) outside the definition of "worker". That is relevant to some Code obligations. It is not a PF or ESI coverage rule and should not be used as one.

The four numbers we will not print

This article states a lot of rates. It deliberately omits four, and it is worth saying why, because every one of them is freely quoted elsewhere.

Where a payroll run needs one of these, we confirm the currently notified figure for that establishment. Where a worked example needs one, we label it as an assumption. What we do not do is print a pre-Code number as though it were the current rate.

Common mistakes

• Assuming rates changed. They did not. The base did.
• Testing the 50% rule on basic pay alone. The proviso compares clauses (a) to (i) together against half of all remuneration.
• Including gratuity or retrenchment compensation in the add-back test. The proviso reaches (a) to (i) only — (j) and (k) sit outside it.
• Applying the Code on Wages exclusion list to ESI. ESI has its own test, in which HRA is wages.
• Treating overtime as raising ESI coverage. ESIC counts it for contribution and not for the coverage decision.
• Renaming an allowance to change its ESI treatment. Periodicity is what the test turns on, not the label.
• Rounding PF and ESI the same way. PF: nearest rupee. ESI: up to the next rupee.
• Forgetting the second proviso. Conveyance, HRA, award remuneration and overtime are counted for equal wages across genders and for the payment-of-wages provisions.
• Ignoring payment in kind. Up to 15% of total wages, it is deemed part of wages.
• Restructuring without modelling take-home. Raising basic raises the employee's own PF deduction too. It is a project, not a spreadsheet edit — and section 18(3) caps total deductions at 50% of wages.
• Quoting the repealed Acts. The EPF Act, 1952, the ESI Act, 1948 and the Payment of Gratuity Act, 1972 were repealed on 21 November 2025.

What to do next

1. Pull your actual salary bands, not the offer-letter template. The add-back bites differently at each level.
2. Run the (a)-to-(i) total against half of remuneration for each band, and note where the add-back applies.
3. Re-run the PF base with the ceiling, and see where the add-back actually changes a contribution and where the ceiling absorbs it.
4. Separately map every allowance against the ESIC wage table, especially anything paid monthly.
5. Re-price the gratuity provision on the post-add-back wages figure, for the whole service history of everyone above five years.
6. Then decide whether to restructure — with take-home impact, the section 18(3) deduction cap and employee communication all modelled together.

If you would rather have that done once, properly, with the numbers on your own bands, it is part of the scope of payroll management and it is the single highest-value hour available to most employers right now.

Sources and currency

Applies to: India. Code on Wages, 2019 and Code on Social Security, 2020, both in force from 21 November 2025. Employees' Provident Funds Scheme, 2026 (G.S.R. 525(E), 29 June 2026); Employees' Pension Scheme, 2026; Employees' Deposit-Linked Insurance Scheme, 2026; Social Security (Central) Rules, 2026 (G.S.R. 344(E), 8 May 2026). PF wage ceiling notified by S.O. 2702(E) dated 29 May 2026. Read on 19 August 2026.

Every rate, ceiling, paragraph and rule number here was read from the gazette text, the India Code text of the statute, or the regulator's own page. Four figures are deliberately absent because they could not be captured from a primary source and must not be invented — the EPF administrative-charge percentage, the EDLI contribution rate, the EPF interest rate for the year, and the gratuity ceiling under section 53(3) of the Code. Where a worked example needs one of them, the assumption is labelled as an assumption. The Code on Social Security's section 2(88) is described qualitatively rather than quoted, because it was not re-read line by line in the capture this article rests on.

• Code on Wages, 2019 (Act 29 of 2019), India Code text as on 21 November 2025 — section 2(y) and its provisos, sections 16, 17, 18 and 2(z)(d)
• Code on Social Security, 2020 (Act 36 of 2020) — First Schedule, sections 1(5), 2(26), 2(88), 2(89), 15, 16, 53 and 164
• Gazette of India, S.O. 5319(E) dated 21 November 2025 — commencement of the Code on Social Security, 2020
• Employees' Provident Funds Scheme, 2026 — G.S.R. 525(E), 29 June 2026, in supersession of the 1952 Scheme (English text from p.66)
• Employees' Pension Scheme, 2026 — G.S.R. 527(E), 29 June 2026 (paragraph 4 on the 8.33% diversion)
• Employees' Deposit-Linked Insurance Scheme, 2026 — G.S.R. 526(E), 29 June 2026 (paragraphs 5 and 8)
• S.O. 2702(E) dated 29 May 2026 — ₹15,000 per month notified as the wage ceiling for Chapter III of the Code (Ministry of Labour and Employment)
• Social Security (Central) Rules, 2026 — G.S.R. 344(E), 8 May 2026; rule 19 sets the ESI contribution rates (English text from p.134)
• ESIC — what counts as wages, the consolidated instruction including the two-month periodicity test
• ESIC — coverage thresholds and the ₹21,000 / ₹25,000 wage limit
• ESIC — contribution periods, payment date and the low-wage exemption