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When you hire your first employee—or pay yourself from your business—you become responsible for payroll. That means it’s time to understand the numbers that go into an employee’s paycheck, including the difference between gross pay vs, net pay.
In this guide, we’ll explain everything you need to know to understand the differences between gross pay and net pay, calculate each and answer any questions your employees have about their paychecks.
As a small business owner, properly calculating gross pay and net pay for your employees is crucial. Getting payroll right helps ensure your employees are paid accurately and on time, while also keeping your business compliant with labor laws. In this comprehensive guide, we’ll explain the key differences between gross pay and net pay and how to calculate both correctly.
What is Gross Pay?
Gross pay refers to an employee’s total earnings before any deductions are taken out. It includes:
- Base salary or hourly wages
- Bonuses
- Commissions
- Overtime pay
- Reimbursements
Essentially, gross pay is the total amount you as the employer owe the employee for the work they performed in a pay period, before accounting for taxes and other deductions.
To calculate gross pay
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For salaried employees divide their annual salary by the number of pay periods. For example, $50000 a year paid biweekly would be $50,000/26 pay periods = $1923.08 gross pay per check.
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For hourly employees, multiply their hourly rate by total hours worked. Account for any overtime by using 1.5 times their hourly rate for overtime hours.
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Add in amounts owed for bonuses, commissions, or expense reimbursements.
Accurately tracking hours worked and calculating gross pay ensures employees are fully compensated for their time.
What is Net Pay?
Net pay, also called take-home pay, is how much an employee actually receives in their paycheck after taxes and other deductions are taken out of their gross pay. Common deductions include:
- Federal income tax
- Social Security and Medicare taxes
- State and local taxes
- Health insurance premiums
- Retirement plan contributions like 401(k)s
- Garnishments
Net pay is the final amount that gets deposited into the employee’s bank account or sent to them via paycheck. To calculate it:
- Start with the employee’s gross pay
- Subtract all deductions like taxes and insurance premiums
- The remaining amount is the net pay
Accurately calculating net pay ensures employees take home the correct amounts per their withholdings and benefits selections.
Key Differences Between Gross Pay vs Net Pay
The main differences between gross pay and net pay:
- Gross pay is the total pay before deductions.
- Net pay is the amount paid after deductions are taken out.
Some other key differences:
- Gross pay reflects exactly what the employee earned from working. Net pay is lower due to deductions.
- As the employer, you are responsible for gross pay. But net pay is what the employee actually receives.
- Gross pay helps track labor costs and productivity. Net pay shows employees their actual take-home amount.
- For payroll taxes, you pay a portion of gross pay. Employees pay some taxes out of their net pay.
- Gross pay is always higher than net pay.
Understanding these differences helps ensure payroll is handled properly.
How to Calculate Gross Pay and Net Pay
Let’s look at some examples of how to calculate gross pay and net pay for hourly and salaried employees.
Hourly Employees
Tom earns $20/hour and worked 42 hours this pay period. He earned 6 hours of overtime at 1.5 times his normal rate.
Gross pay calculations:
- 40 regular hours x $20/hour = $800
- 6 OT hours x $30/hour (1.5 x $20) = $180
- Gross pay = $800 + $180 = $980
For net pay, let’s assume federal taxes (15%), state taxes (5%), Social Security (6.2%) and Medicare (1.45%) are deducted from Tom’s gross pay.
Net pay calculations:
- Gross pay: $980
- Federal taxes: $980 x 0.15 = $147
- State taxes: $980 x 0.05 = $49
- Social Security: $980 x 0.062 = $60.76
- Medicare: $980 x 0.0145 = $14.21
- Total deductions = $147 + $49 + $60.76 + $14.21 = $271.97
- Net pay = Gross pay – Total deductions
= $980 – $271.97 = $708.03
So Tom’s net pay for this period is $708.03.
Salaried Employees
Sarah earns an annual salary of $60,000 paid biweekly.
Her gross pay per pay period is $60,000 / 26 pay periods = $2307.69
Assuming the same tax rates, Sarah’s deductions would be:
- Federal taxes: $2307.69 x 0.15 = $346.15
- State taxes: $2307.69 x 0.05 = $115.38
- Social Security: $2307.69 x 0.062 = $143.08
- Medicare: $2307.69 x 0.0145 = $33.46
- Total deductions = $346.15 + $115.38 + $143.08 + $33.46 = $638.07
Her net pay is therefore:
- Gross pay: $2307.69
- Deductions: $638.07
- Net pay = $2307.69 – $638.07 = $1669.62
So Sarah’s biweekly net pay after deductions is $1669.62.
Common Questions about Gross Pay and Net Pay
Here are some frequently asked questions about gross pay vs net pay:
What’s included in gross pay?
Gross pay includes all earnings before any deductions, including regular wages, overtime, bonuses, commissions, and reimbursements.
What’s the difference between net and gross pay? The difference is deductions—gross pay is the full amount earned, while net pay is lower due to taxes and other deductions being taken out.
Is net pay the amount on my paycheck? Yes, the net pay is the final amount that gets paid to you after deductions. Your paycheck amount is your net pay.
Who pays for gross pay vs net pay? As the employer, you are responsible for an employee’s full gross pay. But the net pay is what the employee receives after deductions come out of their gross pay.
How can I estimate net pay from gross pay? Subtract estimated taxes and deductions of 30-40% from gross pay to estimate net pay. For example, $1000 gross pay – 30% = approximately $700 net pay.
Why is my gross pay higher than my salary? Your salary is just one component of gross pay. Bonuses, overtime, commissions and reimbursements can make your gross pay higher than just your salary.
Can I calculate net pay if I only know gross pay? No, you would need to know the specific deductions taken out to accurately calculate net from gross. But you can estimate net about 30-40% lower than gross.
Does 401k come out of gross or net pay? 401k contributions are typically deducted from gross pay before taxes are calculated. So 401k impacts your net pay but comes out of gross.
How To Calculate Net Pay
To calculate an employee’s net pay, start with their gross pay based on hours worked or salary divided by the number of pay periods in the year. Then, subtract deductions, including:
- Health insurance premiums
- 401(k) or other retirement contributions
- Federal, state and local income taxes, including additional withholdings noted on their W-4
- Payroll (FICA) taxes
- Court-ordered wage attachments
Should gross pay equal salary?
The salary is a starting point for gross income, but gross income could be higher than salary if an employee earns commissions, reimbursements or bonuses throughout the year.
