This article is written by Puneet Gupta, Advocate (Industrial and Labour Laws), pursuing a Diploma in Industrial and labour law, from LawSikho discuss the interpretation of term ‘Basic wages’ of EPF & MP Act, 1952.
The recent judgment passed on 28.02.2019 by the Hon’ble Supreme Court in the matter of Regional Provident Fund Commissioner Vs. Vivekananda Vidyamandir and other connected appeals considered the scope of ‘basic wages’ and allowances liable for PF contributions. The said judgment is published under the caption Surya Roshni Ltd.& Ors. vs. The State of Madhya Pradesh EPF RPFC and Ors. 2019 LLR 339 (SC).
Many messages are being circulated on social media with catchy and scary titles like “Supreme Court delivered a landmark and long-awaited judgment …. PF is applicable on basic salary plus all allowances, unexpected judgment”. From the perusal of the above judgment, it is seen that the Learned Judges have not settled any new legal principle. Nowhere in the judgment, it has been held that all allowances would attract PF liability. The appeals filed by various companies against the various High Court judgments have been dismissed because they (appellants) have failed to prove the rationale behind giving those allowances to their employees. The bench comprising Justice Arun Mishra and Justice Navin Sinha has observed that “no material has been placed by the establishments to demonstrate that the allowances in question being paid to its employees were either variable or were linked to any incentive for production resulting in greater output by an employee and that the allowances in question were not paid across the board to all employees in a particular category or were being paid especially to those who avail the opportunity”.
The position of law remains as it was before the judgement. All that the learned judges have done is, to reproduce the provisions of the EPF Act, 1952 and refer to the 6-judge Constitutional bench landmark judgment of the Hon’ble Supreme Court delivered in the matter of Bridge and Roof Company ( India ) Limited V. Union of India, 1962-II L.L.J. 490 and the principles reiterated in the matter of Manipal Academy of Higher Education Vs. Provident Fund Commissioner LLR 2008 SC 443. The Hon’ble bench has missed the opportunity to settle the controversies on various allowances, once and for all. Had the Hon’ble Supreme Court has given a comprehensive detailed order, the anxieties among the employers/HR professional would not have cropped up.
In fact, issue before the court was, as to whether special allowance [Civil Appeal No. 6221 of 2011]; Variable Dearness Allowance(VDA), house rent allowance (HRA) travel allowance, canteen allowance, lunch incentive [Civil Appeal Nos. 3965-66 of 2013]; management allowance, conveyance allowance [Civil Appeal Nos. 2969-70 of 2013 and Civil Appeal Nos. 3967-68 of 2013]; education allowance, food concession, medical allowance, special holidays, night shift incentives and city compensatory allowance [Transfer Case (c) No. 19 of 2019 (arising out of T.P.(C) No. 1273 of 2013], constitute part of basic wages or not. The bench has not discussed these issues in the judgment and nothing has been said as to whether any of these components of wage should be treated as `basic wage’ or otherwise. The Hon’ble Supreme Court in Surya Roshni case (supra) has not considered the scope of the words “or any other similar allowance payable to the employee in respect of his employment or of work done in such employment” under Section 2(b)(ii).
The position of law has been discussed in paragraph 8 to 14 of the judgment delivered by the Hon’ble Supreme Court in Surya Roshni case (supra). However, paragraph 14 contains the crux and the operative part of the judgment, which is reproduced under:
‘14. Applying the aforesaid tests to the facts of the present appeals, no material has been placed by the establishments to demonstrate that the allowances in question being paid to its employees were either variable or were linked to any incentive for production resulting in greater output by an employee and that the allowances in question were not paid across the board to all employees in a particular category or were being paid especially to those who avail the opportunity. In order that the amount goes beyond the basic wages, it has to be shown that the workman concerned had become eligible to get this extra amount beyond the normal work which he was otherwise required to put in. There is no data available on record to show what were the norms of work prescribed for those workmen during the relevant period. It is therefore not possible to ascertain whether extra amounts paid to the workmen were in fact paid for the extra work which had exceeded the normal output prescribed for the workmen. The wage structure and the components of salary have been examined on facts, both by the authority and the appellate authority under the Act, who have arrived at a factual conclusion that the allowances in question were essentially a part of the basic wage camouflaged as part of an allowance so as to avoid deduction and contribution accordingly to the provident fund account of the employees. There is no occasion for us to interfere with the concurrent conclusions of facts. The appeals by the establishments, therefore, merit no interference. Conversely, for the same reason, the appeal preferred by the Regional Provident Fund Commissioner deserves to be allowed.’
The above judgment has created a panic situation among the HR lobby and the employers and many queries are coming up seeking guidance for restructuring the wages packages/CTC of their employees. It is apprehended that the PF Deptt having the recent judgment at hand, are likely to increase their inspections and audits in order to recover the additional PF contributions along with interest and damages for delayed contribution in respect of such establishment where rationale behind giving such allowance is missing. The probable outcome in such cases would not only lead to increase in PF liability of the employer(s) but would simultaneously may cause loss to the employee(s) as it is likely to increase the employees’ PF contribution, which would, in turn, decrease their ‘carry home salary’, particularly for those employees, drawing wages up to Rs.15000 per month, but would eventually increase their retirement benefits.
As an Employer or an HR Professional, one has to go through the provisions of law contained in Section 2(b) and Section 6 of the EPF Act,1952 and to follow the settled principles of law laid down in Bridge & Roof case, Manipal Case (supra) and the points reiterated in recent judgment (2019 LLR 339). Before adverting to the principles laid down in the above judgments, it has become necessary to set out the relevant provisions of the Act for purposes of the present controversy.
Section 2(b) of the EPF & MP Act, 1952 reads as under:
“Section 2(b) “basic wages” means all emoluments which are earned by an employee while on duty or on leave or on holidays with wages in either case in accordance with the terms of the contract of employment and which are paid or payable in cash to him, but does not include—
(i) the cash value of any food concession;
(ii) any dearness allowance (that is to say, all cash payments by whatever name called paid to an employee on account of a rise in the cost of living), house-rent allowance, overtime allowance, bonus, commission or any other similar allowance payable to the employee in respect of his employment or of work done in such employment;
(iii) any presents made by the employer;”
“Section 6: Contributions and matters which may be provided for in Schemes.
The contribution which shall be paid by the employer to the Fund shall be ten percent. Of the basic wages, dearness allowance and retaining allowance, if any, for the time being payable to each of the employees whether employed by him directly or by or through a contractor, and the employees’ contribution shall be equal to the contribution payable by the employer in respect of him and may, if any employee so desires, be an amount exceeding ten percent of his basic wages, dearness allowance and retaining allowance if any, subject to the condition that the employer shall not be under an obligation to pay any contribution over and above his contribution payable under this section:
Provided that in its application to any establishment or class of establishments which the Central Government, after making such inquiry as it deems fit, may, by notification in the Official Gazette specify, this section shall be subject to the modification that for the words “ten percent”, at both the places where they occur, the words “12 percent” shall be substituted:
Provided further that where the amount of any contribution payable under this Act involves a fraction of a rupee, the Scheme may provide for rounding off of such fraction to the nearest rupee, half of a rupee, or the quarter of a rupee.
Explanation I – For the purposes of this section, dearness allowance shall be deemed to include also the cash value of any food concession allowed to the employee.
Explanation II – For the purposes of this section, “retaining allowance” means allowance payable for the time being to an employee of any factory or other establishment during any period in which the establishment is not working, for retaining his services.”
On the plain reading of the above two sections, it is clear that some allowances/components/amounts have been expressly excluded for making payment of PF contributions. The list of expressly excluded allowances are house-rent allowance, overtime allowance, bonus, commission or any other similar allowance payable to the employee in respect of his employment or of work done in such employment and any presents made by the employer.
The question arises for the applicability of PF Act on allowances prevalent in the industry that forms part of CTC such as, special allowance, Transport allowance, Conveyance allowance, Education allowance, Canteen allowance, Lunch incentive, Management allowance, Medical allowance, City compensatory allowance, Night shift Incentive etc. These allowances are required to be tested in accordance with the definition of basic wages contained in the act and the basic principles laid down by the Hon’ble Supreme Court of India in Bridge & Roof case, Manipal Case and the points reiterated in recent judgment (2019 LLR 339). In Bridge & Roof case (Supra), it was held that the intent of the legislature was not that whatever is price for labour and arises out of contract is included in the definition of “basic wages”, since the main part of the definition is subject to exceptions in clause (ii), and these exceptions clearly show that they include even the price for labour.
To ascertain the correct position of law, and structuring the wages/salary of their employees, the HR Professionals are hereby advised to consider the following principles of law :
First Principle
Where the wages are universally, necessarily and ordinarily paid to all across the board such emoluments are basic wages. Whatever is not paid by all concerns or may not be earned by all employees of concern is excluded from the definition of basic wages. If such allowances are variably paid to the employees of concern and are not paid ordinarily to all the employees and is having a proper rationale for their payment, such allowances would stand excluded for payment of contribution under the Employees’ Provident Fund & Miscellaneous Provisions Act, 1952.
Merely giving fancy nomenclature to allowances would not absolve the employer from making the payment of PF contributions, rather he has to give proper explanation about the nature and rationale behind the making of such payment. It is advised that there should be in place a detailed policy in the company for payment of each allowance and reason for payment thereof so that the same can be explained to the PF authorities.
Second Principle
Where the payment is specially paid to those who avail of the opportunity, is not ‘basic wages’ as defined under Section 2(b) of the Act,1952. In other words, a payment payable to an employee, only on the occasion of availing an opportunity or undertaking a special task, would stand excluded from the definition of basic wages.
By way of examples :
- Overtime allowance, though it is generally in force in all concern, is not earned by all employees of a concern. It is earned in accordance with the terms of the contract of employment but because it may not be earned by all employees of a concern so, it is excluded from the ambit of ‘basic wages’.
- Washing Allowance : If the company has provided uniform to their employees or employee is working in an area where the uniforms or clothes of the employee are required to be neat, clean and tidy (for e.g.peons, Chauffeurs, kitchen boy etc.) or due to his working condition his clothes get dirty and needs periodical washing, then giving of washing allowance to such employees if supported by reasons and logic can be kept outside from the purview of ‘basic wages’.
- Night Shift allowance, High altitude allowance, field allowance, Hill allowance etc. could be considered to be such allowances that are paid to an employee who avails such opportunity. However, proper reasoning supported by logic and documentary proof would be required to oust them from the purview of ‘basic wages’.
Third Principle
Any payment by way of a special incentive or work is not basic wages. If such incentive payment is variable and is linked to any production bonus or incentive or sales incentive of the company, then such payment does not fall within the definition of basic wages. The Hon’ble Supreme Court in Bridge & Roof case (supra) has observed that
“The core of such a plan is that there is a base or a standard above which extra payment is earned for extra production in addition to the basic wages which is the payment for work up to the base or standard Such a plan typically guarantees time wage up to the time represented by standard performance and gives workers a share in the savings represented by superior performance. The scheme in force in the Company is a typical scheme of production bonus of this kind with a base or standard up to which basic wages as time wages are paid and thereafter extra payments are made for superior performance. This extra payment may be called incentive wage and is also called a production bonus. In all such cases however the workers are not bound to produce anything beyond the base or standard that is set out. The performance may even fall below the base or standard but the minimum basic wages will have to be paid whether the basic or standard is reached or not. When however the workers produce beyond the base or standard what they earn is not basic wages but production bonus or incentive wage. It is this production bonus which is outside the definition of “basic wages” in Section 2(b), for reasons which we have already given above.”
Similarly, in order to motivate employees for maximum attendance and to minimize the absenteeism at workplace, the employer introduced attendance bonus to those employees who remain present themselves on all working days, such attendance allowance would also not attract PF liability.
All bonus/incentives should be backed by a policy stating the circumstances and logic for payment of each incentive/bonus and the company should be in position to explain as to “Why such incentive/reward is being paid to the employees?”. Further, all payment of incentive must be based on written policy of the company and such payment of the incentive/reward should be calculated according to the company’s policy.
Fourth Principle
The ‘presents’ made by the employer to an employee by way of inam or reward does not fall within the definition of the term ‘basic wages’. Such presents or rewards should not be ordinarily earned in accordance with the terms of the contract of employment. Where the employer has introduced the scheme of Inam and he has the right to reverse or withdraw it at his discretion, the payment of Inam or presents under such scheme will not be treated as ‘basic wages’ and contribution is not payable.
Further, where there is no scheme of Inam in writing but still employer might be making the ex-gratia payment which is not accordance with the terms of the contract of employment, still such payment of inam or presents will not attract PF liabilities.
Fifth Principle
Quantum of allowances: The allowances should not be disproportionately high vis vis wages of an employee, otherwise it will raise suspicion that it is not a genuine allowance but is a subterfuge to reduce the PF liability. To avoid such a situation the quantum of allowances should be reasonable.
I have been receiving queries regarding the percentage/quantum of HRA which can be paid to an employee and at the same time, it should not create suspicion for PF Authorities of being a camouflage.
I think there is a misconception prevalent amongst HR Lobby that a maximum of 50% HRA (For metro cities) and 40% HRA (Non-metro cities) could be considered while designing the CTC / wage package and is excluded from the definition of ‘basic wages’ and hence, not objectionable by the PF Authorities. Reference to the Income Tax Act, 1961 for determining the quantum of HRA is misplaced. The Income Tax Act provides only for the limit of deduction permissible on income earned by employee, which is the least of the following amounts:
- Actual HRA received;
- 50% of the basic salary for those living in metro cities and
40% for those living in non-metro cities; or
- Actual rent paid less 10% of basic salary.
The Income Tax Act, 1961 does not provide for the maximum amount of HRA that can be paid to an employee in an establishment. Moreover, for availing deduction on HRA under the Income Tax Act, 1961, the least of the amounts hereinbefore mentioned is to be considered. A mere reference to only one of these clauses [i.e. 50% of basic salary (Metro cities) and 40% of basic salary (Non-Metro cities)] is a fallacy.
Sixth Principle
In case of Domestic employees (posted in India) whose salary is above the prescribed statutory limit (at present Rs. 15000) and is a member of PF has to contribute the PF upto the statutory limit. If any establishment/company has been paying any allowance(s) to such employee, then such payment of allowance would not be taken in consideration for deduction of PF Contribution. Thus, the company /establishment is not liable to contribute the PF Contribution on those allowances, even special allowance, if the ‘basic wage’ of the domestic employee is over and above the Rs.15000/-.
However, in the case of International Worker, there is no such prescribed statutory limit and thus, the PF contributions would be paid on full salary that may come under the ambit of ‘basic wages’.
Conclusion
In my opinion, it is high time to draft a comprehensive wage structures of the employees, which should be based on the principles enumerated above, to avoid any litigation from the PF authorities.
The judgment passed in Surya Roshni case (supra) has only interpreted the position of law that was already placed in statute, thus the implication would be retrospective.
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