When you look at your paystubs and the W-2 form you receive at the end of each year, you'll see figures for gross income and net income. Your net income is the amount of pay you took home (and put into your bank account), after your employer took out taxes, benefits or other deductions.
If you want to plan an accurate annual personal budget for you or your family, it's important that you correctly determine your net income to plug into your budget. Understanding "net monthly income meaning" will help you create annual spending, savings and debt-reduction goals.
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Consider also: How to Manually Calculate a Paycheck
What Is Income?
In personal finance terms, income includes the money you receive from your salary or wages, interest on financial products, gifts from parents, dividends from stocks or money from side hustles. Some of the income you earn doesn't go into your bank account and you can't or don't want to spend it. For example, you might want to reinvest stock gains to avoid capital gains taxes. If you get a 401(k) match from your employer, that goes into your retirement account, not your pocket.
Consider also: Form 1040: What You Need to Know
What Is Gross Income?
Gross income is the total amount of money you receive. When it comes to your salary or wages, it's the total amount of money you earn from your employer before anything is deducted from your paycheck. For example, if you earn $60,000 in salary, your gross income is $60,000. If you get paid each week, your gross income per paycheck is $60,000 / 52 = $1,153.85.
Consider also: How to Calculate Gross Monthly Income From a Paycheck Stub
What Is Net Income?
When you earn a $60,000 salary, your employer will deduct your local, state and federal income taxes and send them to the appropriate taxing body (such as the IRS for your federal taxes). In addition, you'll pay FICA taxes. If you are taking advantage of your company's 401(k), your employer will deduct your contribution from your paycheck. If you are purchasing voluntary benefits like dental or vision insurance, that will be deducted from your paycheck.
After all of the deductions are taken out of your paycheck, the remaining money you get is your net pay. Technically, it's not your net income because you are taking some of your income and putting it into your 401(k). Not only are you keeping that money, but you're getting additional income from your employer in the form of a match. When looking at net monthly income definition, your 401(k) contribution isn't considered taxable income (although it's still income).
When creating an annual budget, use your net monthly pay to enter into your spreadsheet or software program to perform your calculations.
Types of Deductions
In addition to withholding your income taxes, your employer withholds your Social Security and Medicare contributions. These are known as FICA taxes. For 2022, you will pay 6.2 percent of your income in FICA contributions on the first $147,000 in salary or wages you earn, explains CPA firm Sensiba San Filippo. You'll also pay 1.45 percent of your income towards Medicare contributions on the first $200,000 you earn, and 2.35 percent on any income over $200,000.
The good news is that this will increase your Social Security and Medicare benefits amounts when you retire. In addition, your employer is required to contribute to your FICA contributions, giving your post-retirement benefits an extra boost.
Lowering Your Taxes
Some of the employee benefits you receive are tax-deferred, explains the IRS. That means, if you have them deducted from your paycheck, you aren't considered to have received that income and you don't pay taxes on that. This happens when you sign up for a 401(k) plan and certain health care benefits. Talk to your HR department about other types of tax-advantages benefits that can help reduce your income tax payments.