How to hire and pay an employee in India – Guide to Indian payroll and employment law

India is a rapidly growing economic powerhouse, offering global businesses access to a vast talent pool and a favourable labour market. However, hiring and paying employees in India involves navigating a complex legal framework and understanding cultural and operational nuances. This guide provides international businesses with an in-depth overview of Indian payroll, employment law, and employee benefits.

Hiring employees in India

Understanding employment types

In India, employment can be classified into the following categories:

1. Permanent employees: Full-time workers entitled to statutory benefits.
2. Contract employees: Hired for a fixed duration or specific projects.
3. Consultants or freelancers: Independent contractors, not entitled to employee benefits.

Legal considerations

When hiring in India, ensure compliance with these key laws:

• Industrial Disputes Act, 1947: Governs termination and dispute resolution.
• Shops and Establishments Act: State-specific laws regulating working conditions.
• Equal Remuneration Act, 1976: Mandates equal pay for equal work across genders.
• Contract Labour (Regulation and Abolition) Act, 1970: Protects contract workers.

Employment contracts

An employment contract in India must detail:

• Job description and working hours
• Compensation and benefits
• Termination clauses
• Compliance with local laws

It is essential to have written contracts in English or a recognised local language to avoid disputes.

Payroll setup in India

Payroll registration requirements

Employers must register with the following authorities:

1. Permanent Account Number (PAN) and Tax Deduction and Collection Account Number (TAN) for income tax purposes.
2. Employees’ Provident Fund Organisation (EPFO) for retirement benefits.
3. Employees’ State Insurance Corporation (ESIC) for health insurance.

Components of Indian payroll

Employee salaries typically include:

1. Basic salary: The core of an employee’s wage.
2. Allowances:
   • House Rent Allowance (HRA)
   • Conveyance allowance
   • Special allowance
3. Deductions:
   • Provident Fund (PF): 12% of basic salary.
   • Employee State Insurance (ESI): Applicable if salary is below ₹21,000 per month.
   • Tax Deducted at Source (TDS): Income tax withheld by the employer.

Payment timelines

• Salaries must be paid monthly, generally by the 7th or 10th of the following month.
• Payslips are mandatory and must include a breakdown of earnings and deductions.

Payroll process in India

Managing payroll in India involves several well-defined steps to ensure compliance with legal requirements and timely payment of employees. Below is a step-by-step guide to the payroll process in India:

1: Employee onboarding

1. Document collection:
   • PAN (Permanent Account Number)
   • Aadhaar card (optional but commonly used for identification)
   • Bank account details
   • Proof of address and date of birth
   • Employment contract and offer letter
2. Employee registration:
   • Register employees with the Employees’ Provident Fund Organisation (EPFO).
   • Enrol eligible employees under the Employees’ State Insurance Corporation (ESIC).
   • Maintain records for professional tax registration (state-specific).

2: Define salary structure

1. Segmentation of gross salary:
   • Basic salary: Typically 40-50% of gross salary.
   • Allowances: Include House Rent Allowance (HRA), conveyance, medical, and other special allowances.
   • Deductions: Provident Fund (PF), Employee State Insurance (ESI), and Tax Deducted at Source (TDS).
2. Tax optimisation:
   • Structure salary components to maximise tax savings, such as including HRA for employees who pay rent.

3: Time and attendance tracking

1. Monitor working hours:
   • Use attendance systems to track hours worked, leaves taken, and overtime.
2. Verify leave entitlements:
   • Cross-check leaves against the company’s leave policy and state regulations.

4: Calculate payroll

1. Gross salary:
   • Sum up all salary components (basic salary, allowances, and bonuses).
2. Deductions:
   • Provident Fund: 12% of basic salary.
   • ESI: 0.75% of gross salary for employees (if applicable) and 3.25% for employers.
   • TDS: Deduct based on employee income and applicable tax slabs.
   • Professional Tax: A state-specific deduction where applicable.
3. Net salary:
   • Gross salary minus all deductions equals the net salary to be paid.

5: Pay salaries

1. Bank transfers:
   • Process payments through NEFT, RTGS, or IMPS.
   • Ensure payment is completed by the statutory deadline (typically the 7th or 10th of the following month).
2. Payslips:
   • Provide employees with detailed payslips that include gross salary, deductions, and net pay.

6: Statutory compliance

1. Monthly contributions:
   • Deposit PF contributions to the EPFO by the 15th of the following month.
   • Pay ESI contributions to the ESIC by the 15th of the following month.
   • Deduct and deposit TDS with the Income Tax Department by the 7th of the following month.
2. Regular filings:
   • File EPF and ESI returns monthly.
   • Submit TDS returns quarterly.
   • Maintain compliance with labour laws by filing necessary reports.

7: Year-end activities

1. Tax declarations:
   • Collect tax-saving investment proofs (e.g., under Section 80C and 80D of the Income Tax Act).
2. Form 16 issuance:
   • Issue Form 16 to employees, detailing income and TDS for the financial year.
3. Compliance audits:
   • Conduct internal audits to ensure compliance with statutory requirements.

Employment law in India

Working hours and overtime

• Standard hours: 8 hours per day or 48 hours per week.
• Overtime: Paid at twice the regular rate, as per the Factories Act, 1948.

Termination rules

• Notice period: Typically 30 to 90 days, depending on the employee’s role.
• Severance: Governed by the Industrial Disputes Act, providing retrenchment compensation for certain categories.

Leave entitlements

Employees are entitled to:

• Annual leave: 12 to 15 days of paid leave annually.
• Sick leave: 6 to 12 days per year, depending on state laws.
• Public holidays: 8 to 12 days, varying by region.

Employee benefits in India

Statutory benefits

1. Provident Fund (PF): Both employer and employee contribute 12% of basic salary.
2. Employee State Insurance (ESI): For employees earning below ₹21,000 per month.
3. Gratuity: Lump sum payment after 5 years of continuous service.

Additional benefits

• Medical insurance: Employers often provide group health insurance as part of the benefits package.
• Bonus: Mandatory under the Payment of Bonus Act, applicable to employees earning below ₹21,000 per month.
• Meal and travel allowances: Commonly included to improve employee satisfaction.

Taxation and compliance

Employee taxation

• Income Tax Slabs (2024-25):
  • Up to ₹2,50,000: Nil
  • ₹2,50,001 – ₹5,00,000: 5%
  • ₹5,00,001 – ₹10,00,000: 20%
  • Above ₹10,00,000: 30%
• Employers are responsible for withholding taxes (TDS) and depositing them with the government.

Employer taxation

• Corporate tax rates:
  • 25% for companies with turnover below ₹400 crore.
  • 30% for companies exceeding this threshold.
• Goods and Services Tax (GST): Applicable for certain employee reimbursements like company-provided cars.

Statutory filings

Employers must file regular reports with:

• Income Tax Department (monthly TDS returns)
• EPFO and ESIC (monthly contributions)
• Labour authorities (annual reports on employee welfare measures)

Best practices for hiring and paying employees in India

1. Understand local nuances: Each state in India may have different labour laws.
2. Work with a payroll provider: Outsourcing payroll to a local expert ensures compliance.
3. Offer competitive benefits: Supplement statutory benefits with perks like performance bonuses and flexible working.
4. Cultural sensitivity: Acknowledge Indian festivals and traditions to build a strong employer brand.

Conclusion

Hiring and paying employees in India requires meticulous adherence to statutory requirements and an understanding of cultural and legal frameworks.

By following this guide, international businesses can successfully expand their operations in India, attract top talent, and remain compliant with local laws.

For further assistance, consider partnering with local payroll specialists or employment law advisors to ensure a smooth hiring process.

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