TIBS Blog

In India, the most frequently used pay period (the length of time for which salary is calculated) is monthly.

How does one define “monthly?”

Some organizations define monthly as calendar month, while other organizations specify their own dates to define month – for example, from 21^st of a month to the 20^th of next month. In addition, in some organizations, some heads of pay may be calculated for a calendar month, while some other heads may be calculated for a different monthly period, i.e. 21^st t0 20^th. Whatever the month definition, salary payments typically happen on the same day, for example, the last working day of the calendar month.

Why do organizations specify their own dates while defining month for salary computation? Here are the reasons we have come across.

1. “Greater hold” over employees

A business process outsourcing company, known to us, defined 21^st to 20^th as its salary month, while the salary payment happened on the last working day of the month. When we asked them why they adopted 21^st to 20^th as the period for salary computation, the company said they wished to “retain” 10 days’ (from 21^st till the day salary is paid) salary and this would discourage employees from leaving the company without any notice since their 10 days’ salary was with the company.

Whatever happened to values such as employee friendliness and trust!

2. Administrative convenience

Payroll managers typically process payroll by the 26^th or 27^th of a month and by specifying 20^th as the last day of the month, they can receive all the inputs on time for payroll processing. In case the month is defined as calendar month, payroll managers, when they process payroll, may not know, for example, if there will be loss of pay for an employee after the 26^th, the date of payroll processing. The payroll in such cases may be processed with the assumption that there will be no loss of pay for the month after the date of payroll processing.

We believe defining the month as anything other than calendar month leads to problems in salary processing and statutory compliance. It is best if month is defined as calendar month whenever salary is paid monthly.

Let us take a look at the problems faced by payroll managers when they do not follow calendar month but define their own month for salary computation.

1. Difficulty in salary computation

When the pay period is spread across 2 calendar months, what should be the base number days for pay computation? We described the different bases of pay computation here and here. The calendar day logic will not work if the salary month is different from calendar month, while adopting a standard number of base days — such as 30 or 25 — for salary computation could lead to flawed salary calculation as described here.

Of course, one can always write a formula in a payroll software, input the exact number of worked days for employees and the total number of pay days and calculate pay, if the salary month is defined as 21^st to 20^th or 26^th to 25^th for that matter. However, in such cases, implementing an automated arrear calculation, by way of formula, in the payroll software may not be possible and the payroll manager adopting 21^st to 20^th as the salary month may have to compute arrear salary manually. In addition, non-calendar salary months may lead to incorrect computation of loss of pay amounts and loss of pay reversals.

2. Issues with income tax calculation

The tax year is April 1 to March 31 as per the tax law. If a company defines its pay period as, say, 25^th to 24^th, compliance with the tax law may be difficult. In the month of March, the company’s salary month would end on March 24 (for the month February 25 to March 24). If salary for the period March 25 to March 31 accrues in the books of accounts of the company for the March month, the company will have to calculate income tax on salary for that period as per the rates prevailing for the year ending March 31. If for the salary paid for the period March 25 to April 24, tax rates are applied as per the rates prevailing in the new tax year starting April 1, the company may be calculating tax in contravention to Section 15 of the Income Tax Act. As a consequence, the Form 16 may present incorrect data regarding salary paid and income tax deducted.

3. Issues with provident fund/ESI calculation

Month, as specified by the laws governing Provident Fund (PF)/ESI, is the calendar month. If a company follows 21^st to 20^th as salary month, the amount remitted to the PF/ESI department may be different from the PF/ESI amount which should be accrued in the books of accounts since the PF/ESI amount for a calendar month could be different from the PF/ESI amount payable for the month, from 21^st to 20^th.

If new PF or ESI deduction rates are mandated by the respective departments from a certain month, computation of PF/ESI deductions may be incorrect if a company follows non-calendar month for pay computation. For example, let us assume that a new PF deduction rate, say, 15% of Basic pay comes into effect from March 1 of a PF year. If a company follows January 21 to Feb 20 as the salary month, the PF amount for salary paid for Feb 21 to Feb 28 may be calculated at 15% (the new rate) in March payroll run while the new PF rate comes into existence only from March 1 (and not February 21).

Using the calendar month is fine, but what if the payroll inputs are not available by the time payroll is run?

This is a valid issue. The only way to tackle this is to make certain assumptions while running the payroll and make adjustments, if required, in the next month’s payroll run or final settlement. For example, payroll is run on the 26^th of a month for the entire calendar month and the salary is credited on the last day of the month with the assumption that there is no loss of pay for an employee. If in the first week of next month, an input that there is a one day loss of pay for an employee for the previous month is received, then the one day loss of pay could be deducted in the next month’s payroll run.

Despite the administrative inconvenience, it is best to use calendar month for the sake of computing monthly pay.