Knowing the exact amount of wages helps us budget for the month, save money and pay bills. However, in order to plan your expenses correctly, you need to understand the difference between gross and net pay. In short, gross pay is the amount you earn before taxes and other payroll deductions and benefits that are withheld from wages. Thus, the amount that remains after all withholdings is net pay. Let’s take a closer look at each of them.
What’s Gross Pay? Is Gross Before Taxes?
As already mentioned, gross pay is your salary before the deductions. Most often employers use a gross pay figure to negotiate compensation with employees. Also, gross pay is usually indicated in brackets for federal and state road tax.
How Gross And Net Pays Are Calculated?
In order to calculate gross pay you must divide the annual wage by the number of pay periods in the year. To calculate Net pay, all necessary withholdings are deducted from gross pay. Keep reading to find out which ones.
How Is Gross Pay Calculated?
Of course, the calculation of gross pay will directly depend on how a particular employee is paid. If you are a salaried employee, then your gross pay is equal to the annual wage divided by the number of pay periods in the year. Let’s take an easy example: if you make $ 60,000 a year and receive a regular monthly salary, then your gross pay would be $ 5,000.
Some workers receive hourly wages. In order to calculate it, you need to multiply the hourly rate by the number of hours worked during the pay period. Also consider an example: if you work 30 hours and get $ 15 an hour, then your gross pay would be $ 450.
What Is Net Pay?
Net pay is that part of the salary that the employee takes home after all the deductions. Net pay depends on payroll deductions, which can be either voluntary or mandatory. However, what affects net pay? Explore the main ones below:
- Social Security and Medicare taxes. You should be aware that these taxes are known as FICA (Federal Insurance Contribution Act). Employee contributions must match employer contributions. Often Medicare tax is 1.45% and the Social Security tax is 6.2%.
- Federal income tax withholdings. The bracket system calculates federal income tax, which increases depending on income.
- State income tax withholdings. You should be aware that most states use tax brackets, however some do not have income tax. Also, you should pay attention to the fact that some cities also have their own income tax.
- Wage garnishment. Please note that in some situations the court may order the employer to withhold a percentage of the employee’s salary to pay off student loan, credit card, alimony and so on.
- Retirement savings. You should remember that some retirement plans also include contributions that are deducted from salary (such as 401 (k)).
How Is Net Pay Calculated?
You probably also want to know how net pay is calculated. So, in order to calculate it, employers usually follow these steps:
- Calculate gross pay. As you already know, in order to do this, you need to multiply the hourly rate by the total number of hours worked (or wages divided by the number of pay periods).
- Deduct 401 (k) and other pre-tax contributions.
- Withhold all the necessary taxes. Typically, these will include federal income tax, state and local taxes and FICA taxes.
- Garnish wages. If the court ordered the employer to withhold a certain percentage of the employee’s salary, then they are also deducted from the salary.
Now that you have received certain information, you know that gross pay is your salary before taxes and other withholdings. However, it is net pay that is the amount that you take home and can use to plan expenses, pay utility bills, apartment rent and other necessary expenses.
