When it comes to personal finance, it's useful to understand the different terms people use to describe things. A couple of these terms are "gross income" and "net income." Knowing what these mean and how they apply to your financial situation can help you get a clearer picture of your finances and make better decisions about your money.
What Is Gross Income?
You might think of "gross" as describing something unappealing. But that's actually a relatively new use of the word. Another meaning has been around for longer: "gross" meaning "whole" or "entire." That's the definition we're using here. Your gross income is all the money you bring in, before any of it is siphoned off and put toward obligations (like taxes).
For instance, let's say you earn a salary of $60,000 per year. Assuming you're not making money anywhere else, that's your gross income. Unfortunately, though, that entire $60,000 is not going to make it into your pocket. Why not? Read on.
What Is Net Income?
In the personal finance world, net income is what you're left with after taxes and other deductions. When you're a salaried worker, it's the amount you take home in your paycheck.
For example, let's go back to that $60,000 salary. As we've already discussed, that's your gross income. But you still need to pay income tax, and your employer might also deduct money for things like insurance or 401(k) contributions. What's left over is your net income.
An additional note: "Net income" is also a term used in the business world, so if you own a small business, you'll want to research the term in more detail for that context.
How To Calculate Gross Income and Net Income
Now that you know what these terms mean, here are some details on how to calculate them.
Calculating gross income
If you only have one salaried job, this is easy. Your gross income is your full salary.
If you have multiple jobs, add the total pay (before deductions) from each job together to get your full gross income.
Calculating net income
It can be a bit trickier to calculate your net income because a lot of factors go into it, including where you live.
The easy way is to look at your paychecks. Your pay stub (which you might receive electronically) should outline all the details: your gross income for that pay period, each deduction and the net amount you receive.
If you're looking forward, though, you'll need to do some estimating. One way is to search online for a net income calculator for your state. Fill in your gross income and other relevant numbers, like IRA contributions, and it will estimate your take-home income, also known as your net income.
Tax Implications
The government calculates your income tax payable based on your gross income. If you have a job, this isn't usually something you have to worry about. Your employer will do the math, submit taxes and other deductions, and pay you what's left—your net income.
But there are a few cases where things get more complicated:
- If you have a small business or side hustle, you might need to pay income tax on those earnings, too.
- If you have a lot of tax deductions, you might end up with a big refund after you file your taxes—which means your net income is higher than you thought.
- If you have more than one job, your employers might not calculate your income tax correctly.
If any of these scenarios apply to you or you're concerned about your income tax situation, it might be worth speaking with an accountant or other tax professional to make sure all your numbers add up correctly.
How Much Do You Earn? It's Complicated
The salary you earn and the amount of money that makes it to your bank account aren't the same, which can be confusing when it comes to personal finances. That's why it's important to understand the difference between gross and net income—and to be clear on how much of your earnings is actually available for you to use.
Once you've calculated your net income, you're ready to create a budget that will help you reach your goals. Start by learning about zero-based budgeting and how it can put you in control of your finances.
