Gage tolerance is the gage's increments of measure (also called resolution or discrimination).
According to the AIAG's guideline called “The Rule of Tens”, gage tolerance should divide process tolerance into at least 10 parts.
Your process tolerance is the allowed deviation from a target value that keeps product purpose (process variation). For example, you are producing ball point pens with a ball outer diameter of 0.35 mm. Acceptable balls range from 0.34 to 0.36 mm. Subtracting the maximum and minimum diameters, the process tolerance is 0.02. In order to accurately measure these balls, you must use a gage capable of detecting several differences in this range. Using the Rule of Tens, calculate 10% of the process tolerance. This means your gage must be able to detect a difference of at least 0.002 mm between balls.