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Gross vs. Net Income: What’s the Difference?
Gross income is your income before deductions. Net income is the dollar amount on your paycheck after deductions. That said, the definitions can vary.
Updated May 11, 2022
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Gross income vs. net income: What’s the difference?
Written by: Lance Cothern, CPA
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In a Nutshell
Gross income and net income can mean different things depending on the situation. In general, gross income is the total income you earn on your paycheck, and net income is the amount you receive after deductions are taken out.
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Gross income and net income are fairly easy to understand, but the terms can have different meanings depending on the situation.
Gross and net income are two terms you’ll commonly see in reference to your personal finances, a business’s finances and sometimes your taxes. It’s important to know how gross and net income are different in each circumstance.
Gross income is typically the larger number, because in most cases it’s the total income before accounting for deductions. Net income is usually the smaller number, as that’s what left after accounting for deductions or withholding.
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Your paycheck and personal income
The most common place you’ll see references to gross and net income is your paycheck. Your gross income, often called gross pay, is the total amount you’re paid before deductions and withholding. If you aren’t paid an annual salary, your gross pay for a paycheck will be equal to the number of hours you worked multiplied by your hourly pay rate. When you add up all your gross pay for a year, you should get your annual gross income. If you’re salaried, the annual salary your employer pays you is the same as your annual gross income.
Net income is your gross pay minus deductions and withholding from your paycheck. Your net income, sometimes called net pay or take-home pay, is the amount that the paycheck is written for. It’s the amount you’d get if you cashed the check, or if you use direct deposit, it’s the amount deposited in your bank account.
What types of deductions do I subtract from my gross income to reach my net income?
Many types of deductions and withholdings could reduce your gross income to net income. Here are some common deductions and withholdings.
Health insurance premiums
Dental insurance premiums
Vision insurance premiums
Health savings account contributions
Flexible savings account contributions
Social Security and Medicare taxes
Federal income tax withholding
State, city and/or local income tax withholding
Businesses can also use the terms gross and net income. Within the business realm, gross and net income can mean different things from business to business, depending on the type of business.
In general, gross income, also referred to as gross profit, is a business’s revenue minus the cost of the goods it sells. This type of income shows how much money a company has left over, after selling its products and accounting for the cost of goods, to pay the rest of its expenses.
On the other hand, a business’s net income, also referred to as net profit, is normally the amount of money left over after accounting for operating expenses a company incurs.
Your personal income taxes
You may see the term “gross income” come up when filing your income taxes.
In this case, most people use the term gross income to refer to your total income, which you can find on Form 1040. That said, nontaxable types of income aren’t included in total income. Nontaxable income can include gift income and income used for certain retirement contributions.
You may also see the term “net income” when filing income taxes. You can calculate it using information from your federal tax return. Take your taxable income listed on your Form 1040 (Line 10 for 2018) and then subtract your total tax (Line 15). The result is your net income based on your tax return.
One term the IRS does use that you might want to know when it comes to taxes and your income is adjusted gross income. Adjusted gross income is your gross income minus certain adjustments. Read more about adjusted gross income and your taxes.
Gross income and net income can have different meanings depending on the situation. You could see these terms in many places, including loan applications.
An easy way to keep these terms straight is by using a simple rule of thumb. Usually, gross income is the bigger number and net income is the smaller number. If you’re not sure which number is being requested on a form, look at the instructions or ask someone for help.
Gross vs. Net Pay
Find out the key differences between gross pay and net pay, and how they can be calculated from your employee's paychecks.
Finances and Taxes
August 27, 2019
Q: What’s the Difference Between Net Pay and Gross Pay?Andi SmilesSmall business financial consultant
When it comes to payroll and paychecks, there are two important terms to understand: net pay and gross pay. But what’s the difference?
The latest info & advice to help you run your business.Gross pay is the amount of money your employees receive before any taxes and deductions are taken out. For example, when you tell an employee, “I’ll pay you $50,000 a year,” it means you will pay them $50,000 in gross wages.Net pay is the amount of money your employees take home after all deductions have been taken out. This is the money they actually get on payday.
Both terms appear on your employee’s pay stub. Gross pay or earnings usually appears at the top of the pay stub, while net pay appears towards the bottom, typically after a list of your employee’s payroll deductions.
Okay, great. But how do you actually calculate gross pay and net pay for your hourly and salaried employees? Let’s walk through some examples so you can see exactly how each term impacts your team’s take-home pay—and your employer payroll taxes.
How do I calculate gross pay for an hourly employee?
To calculate the gross pay for an hourly employee, multiply their hourly rate by the number of hours worked. Then add any other applicable sources of income, such as overtime, tips, and commissions.
For example, you pay Betty $18 an hour and Betty works 80 hours per pay period (about 40 hours per week). When you run payroll, you’ll calculate Betty’s gross wages like this:
$18 x 80 = $1,440
Betty’s gross wages for that pay period are $1,440. To calculate her total gross pay, you will need to add her other sources of income too.
If your employee works overtime, multiply their overtime hours by their overtime rate, which is 1.5 times their regular hourly wage. Then, add the overtime wages to their regular wages.
For example, one week, Betty covers an extra shift and works eight hours of overtime, for a total of 48 hours worked. Betty will be paid her regular hourly rate of $18 for the first 40 hours, and then her overtime rate of $27 for the 8 hours of overtime.
Here’s how it looks for a two-week pay period:
Hours worked Hourly rate Gross pay
Week 1 40 $18 $720 Week 2 40 $18 $720 Week 2 8 $27 $216
Total gross pay $1,656
How do I calculate gross pay for a salaried employee?
To calculate the gross pay for a salaried employee, first, determine how many pay periods you have throughout the year. A pay period is the time frame that you’re paying your employee for.
These are the different types of pay periods and how many times they occur in a year.
Pay period Definition Periods per year
Weekly You pay your employee every week on a specific day of the week (like Friday) 52 payrolls per year
Bi-weekly You pay your employee every two weeks on a specific day of the week (like every other Friday) 26 payrolls per year
Semi-monthly You pay your employee twice a month on a specific date (like the 5th and the 20th) 24 payrolls per year
Monthly You pay your employee once a month on a specific day (like the 25th) 12 payrolls per year
Once you know how many payroll periods you have in the year, divide your employee’s annual salary by the number of payroll periods.
For example, Jorge’s annual salary is $225,000, and you run payroll on a semi-monthly schedule, which is 24 payrolls per year. Here’s how to calculate Jorge’s gross pay per payroll period:
$225,000 / 24 = $9,375
You’ll pay Jorge $9,375 in gross wages every time you run payroll. As with hourly employees, you will also add any other required sources of income to calculate gross pay.
How do I calculate my employee’s net pay?
Before you calculate your employee’s net pay, you need to know their gross pay. This is your starting point.
Next, you need to know what deductions your employee has from their paycheck. Some deductions, like FICA payroll taxes and income tax withholdings, are mandatory. Others, like health insurance and retirement contributions, are voluntary.
Finally, you’ll need to know your employee’s withholding allowance and filing status, which you can find on Form W-4, Employee’s Withholding Allowance Certificate. Your employee filled out this form when they were hired.
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Step 1: Calculate the voluntary pre-tax deductions
The first step to calculating your employee’s net pay is to subtract their voluntary pre-tax deductions from their gross pay.
Voluntary deductions are payroll deductions that your employee chooses to have withheld from their paycheck, but aren’t required by law. Pre-tax means that the deduction is taken out of your employee’s gross pay before they pay mandatory payroll taxes. Pre-tax deductions lower your employee’s taxable income and payroll taxes.
Types of pre-tax payroll deductions that may qualify:
Health benefits Commuter benefits
For example, Betty contributes $150 to her traditional 401(k) plan every paycheck, and she contributes $90 toward her health insurance premium.
What are Payroll Deductions?
Payroll deductions are a portion of employee wages withheld to pay taxes, garnishments and benefits. Learn more about how they work.
What are payroll deductions?
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Payroll deductions are wages withheld from an employee’s total earnings for the purpose of paying taxes, garnishments and benefits, like health insurance. These withholdings constitute the difference between gross pay and net pay and may include:
Income tax Social security tax
Child support payments
Some payroll deductions are voluntary and may be taken out of a paycheck on a pretax or post-tax basis as long as the employee provided written authorization. Taxes and wage garnishments, on the other hand, are mandatory and employers who fail to accurately withhold these deductions may be liable for the missing amounts.
How do payroll deductions work?
Payroll deductions are generally processed each pay period based on the applicable tax laws and withholding information supplied by your employees or a court order. The calculations can be done manually or you can automate the process using a payroll service provider. Many businesses choose automation because it reduces errors and ensures that payments are filed with the proper authorities on time.
The amount you withhold for each employee depends upon the individual’s Form W-4 Employee’s Withholding Certificate, state and local withholding certificates, benefit selections and other details. For instance, has the employee enrolled in your health insurance plan or is there a court-ordered garnishment to comply with?
Your place(s) of business and where your employees perform services also play a factor in payroll deductions because not every state collects income tax.
Pretax deductions are taken from an employee’s paycheck before any taxes are withheld. Because they are excluded from gross pay for taxation purposes, pretax deductions reduce taxable income and the amount of money owed to the government. They also lower your Federal Unemployment Tax (FUTA) and state unemployment insurance dues.
Types of pretax deductions include, but are not limited to, health insurance, group-term life insurance and retirement plans. And while employees are not required to participate, it’s often in their best interest to do so. Pretax contributions can save them considerable money compared to what they would pay for benefits and other services post-tax.
The savings, however, are not limitless. There are usually caps on how much employees can contribute on a pretax basis. The IRS, for instance, regulates the total amount that can be deferred pretax to a 401(k)-retirement plan each year.
Statutory deductions are mandated by government agencies to pay for public programs and services. They consist of federal income tax, Federal Insurance Contributions Act (FICA) tax (Medicare and Social Security) and state income tax. To file them correctly, you need to know the work status of your employees.
If you hire independent contractors, you usually don’t have to withhold income tax, Social Security tax or Medicare tax from their wages. That’s because these types of workers pay self-employment tax on their income. On the other hand, if someone is a bona fide employee, you’re required to deduct the necessary taxes. You can submit Form SS-8, Determination of Worker Status for Purposes of Federal Employment Taxes and Income Tax Withholding to the IRS for further assistance.
FICA taxes support Social Security and Medicare. Employees pay Social Security tax at a rate of 6.2% with a wage-based contribution limit and they pay Medicare tax at 1.45% without any cap. This equals 7.65% in FICA taxes per paycheck (until the Social Security wage base is reached), which you are legally obligated to match.
Some employees may also be subject to Additional Medicare tax. Starting with the pay period in which an individual’s earnings exceed $200,000, you must begin deducting 0.9% from his or her wages until the end of the year. Additional Medical Tax also applies to certain levels of railroad retirement compensation and self-employment income. You’re not required to match this deduction.
Federal income tax
The federal government has seven income tax brackets, ranging from the 10% marginal rate to 37%. These rates are applied progressively, which means that an employee’s wages are first charged at the lowest rate until they reach that bracket’s threshold. They continue to be charged at each subsequent rate until they reach their total gross income or the highest tax bracket.
The taxable income in each bracket varies depending on the individual’s filing status – single or married filing separately, married filing jointly, or head of household – which is noted on Form W-4. Yearly adjustments for inflation by the IRS will also determine the tax bracket thresholds.
To withhold federal income tax each pay period, you generally have two options – the wage bracket method or the percentage method – both of which can be found in IRS Publication 15-T.