Net salary is the amount that is paid by an employer to his workforce against the services they perform for him. It is paid regularly at a fixed time interval, generally every month.
Net salary is also referred to as the take-home salary as it is the amount that is paid to him by the employer after subtracting tax provident fund from the gross salary.
Meaning of net salary
Net salary is said to be the physical amount that the employee gets his hands on and is exclusive from other fringe benefits.
The gross salary is the actual salary that was promised to the employee, but the net salary is the one that is being paid to him. If the amount of the gross salary and net salary is almost equal, then it means that the income tax levied is negligible.
In most cases, the net salary will be lower than the gross salary as every employee has to pay several deductions like PPF, gratuity, income tax, professional tax, etc. that are deducted by the employer upfront before paying the salary.
Some of the major deductions that are taken from the gross pay so that the employer can determine the net salary are as follows-
- Federal income tax
- State and local taxes
- Health insurance deductions
- Medicare tax
- Payroll taxes
- 401(k)
- Union dues
- Social security tax
- Pension deductions
- Flexible spending account deductions
- Deductions related to charitable donations
- Repayment of company advances or loans
- Garnishments
How to calculate net salary calculation
Net salary can be calculated easily with the help of the formula
- Net Salary =CTC ( Cost to Company) – EPF ( employee provident fund) – Retrials – Deductions – Income Tax ( TDS)
- Net Salary = Gross Salary- Income Tax(TDS) – Deductions
Examples of net salary
How to calculate the net salary is an important question. Let me explain it with the help of a net salary example. David’s CTC is 10,000 dollars, and other components include the basic salary of 4000 dollars, a gratuity of 100 dollars, provident fund of 500 dollars, TA /DA of 400 dollars, a bonus of 2000 dollars, medical allowance of 500 dollars and income tax and other deductions are 500 dollars, etc.
The first step is calculating the gross salary, and that is
Gross Salary = 10000 – 500 (provident fund) – 100(gratuity)
Gross Salary = 9,400 dollars
Now how to calculate net salary-
Net Salary = Gross Salary – Income Tax – Deductions
Net salary = 9400 – 500 (income tax and other deductions)
Net Salary = 8,900 dollars.
Steps to determine net salary
Take the following steps to determine the net salary
1. Determine what your gross salary is
It is impossible to know about your net salary until and unless you have a clear picture of your gross salary. What is a gross salary is an important question. Well, gross salary is the amount that has been promised to a salaried employee by his employer.
The gross salary amount is mentioned in the offer letter in the section marked salary where every other component, both on a monthly and yearly basis is also listed like holiday pay, overtime pay, bonuses, and other differentials.
This salary comprises of several components like EPF, income tax, medical insurance, etc. without any previous deductions. In case a person does not know or remember his gross salary, he can consult with the human resources department who has a copy of your offer letter along with every detail of your employment.
The basic components of the gross salary that are necessary to calculate the annual package of an employee are
- Basic salary – As the name suggests it is the basic pay that is promised by an employer to a salaried employee
- House rent allowance (HRA) – The House rent allowance helps to minimize the tax of the employee
- Conveyance allowance- This allowance allows the employee to travel from and to from work to home
- Leave travel allowance – This allowance covers the employee’s travel cost and is a help in tax exemption
- Bonus – This allowance covers under the gross salary
- Retirals – It includes the pension plan of the employee for the post-retirement period
To determine the gross salary, you have to take help of this formula
Gross Salary = CTC (Cost to Company) – EPF (Employee Provident Fund) – Retrials
2. Determine the sum of your deductions
This step is essential as it will help the employee in knowing about the deductions that will occur in his gross salary. The monthly deductions are mentioned in the payslip and include voluntary and mandatory deductions like 401(k), health plan taxes, etc.
The employee needs to add all the deductions that will be paid by him to determine the sum of his deductibles every month.
3. Calculating net salary
The two main components gross pay and the total sum of deductibles is ready. The formula as mentioned earlier to calculate net salary is
Net salary = gross pay – deductions
Let me explain this with an example. Is the net salary monthly? Yes, it is, and this is why we have to determine the gross salary also monthly. Suppose your gross annual salary is 60,000 dollars.
You have calculated your total deductions at 500 dollars per month. First, take out your gross salary for a month by dividing the total amount of 60000 by 12. This is equal to 5000 dollars per month. By using the formula of net salary, we can easily derive the net salary
Net salary = gross pay – deductions
Net salary = 5000 – 500
Net salary = 4500 dollars per month.
The net salary, in this case, is 4500 dollars per month
Differences between gross salary and net salary
The differences between gross salary and net salary are as follows
| Gross salary | Net Salary |
|---|---|
| Gross income is the total amount of earnings that an employee is eligible for before the deduction of taxes, minus expected exemptions. | Net income is the total amount of earnings that an employee is eligible for after the deduction of taxes and contributions from his gross salary. |
| Gross salary is in most cases more than the net salary. | Net salary is, in most cases, less than the gross salary. In a limited number of cases, it will be equal to the gross salary mainly if the gross salary lies below the tax limits amount levied by the government. |
| Gross salary includes net salary, retirals, and income tax. | Net salary does not include gross salary, retirals, and income tax. |
| Gross salary is not dependent on net salary. | Net salary is dependent on the gross salary. |
| Gross salary is the maximum amount that the employee can earn as his salary as it is inclusive of all taxes. | Net salary is the minimum amount that the employee can earn as his salary as it is offered after deducting all taxes. |
| Gross salary includes several benefits for instance differentials, holiday pay, overtime payment, bonus, etc. | The net salary amount is exclusive of any fringe benefits. |
| Gross salary is only visible on the paper. It is not the amount that the employee can lay claim to and take home with him. | Net salary is the only physical amount that the employee is eligible for and can lay claim to. It is the money that he can take home and spend on essentials and luxuries as per his needs and wishes. |
| You can obtain a gross salary from cost to company after subtracting retrial and employee provident fund amount. | You can obtain a net salary from gross salary after subtracting income tax and deductions. |
| The gross salary is yearly. the employee has to calculate it monthly to know about the net salary. | Net salary is calculated every month. |
Conclusion
The term net salary is significant for a salaried employee as it is the amount for which he works at his best efficiency so that he can take it home and spend on whatever things he wants to.
It is a type of security because an employee knows the amount that he will be receiving at the end of every month and can plan his expenses and savings accordingly.
