# Net Pay vs. Gross Pay—What's The Difference? | Capterra | Capterra > What’s the difference between net pay and gross pay? Read our guide to find out, as well as how to handle both of these in your payroll and financial reporting. Source: https://www.capterra.com/resources/net-pay-vs-gross-pay --- Benefits and CompensationFinance & Accounting # Net Pay vs. Gross Pay—What's The Difference? By Stephan Miller Stephan Miller Stephan Miller is a writer and software developer specializing in software and programming topics. He has written two published books and is a frequent contr... [See bio & all articles](https://www.capterra.com/resources/author/smiller/) Published December 7, 2022 8 min read Table of Contents - [What is gross pay?](#what-is-gross-pay) - [What is net pay?](#what-is-net-pay) - [Why understanding net vs. gross pay is important](#why-understanding-net-vs-gross-pay-is-important) ## Understand how gross pay and net pay differ, as well as how that can affect your company’s payroll and financial reporting. Learning how to handle [payroll](https://www.capterra.com/payroll-software/) for your small business or startup can quickly get complicated. Depending on the variety of employees your company employs, the type of pay, whether salary or hourly, deductions, labor laws, and more have to be considered. [Financial reporting](https://www.capterra.com/financial-reporting-software/) for your business can get complex, but it’s critical to ensure that you're calculating employee pay and withholding correctly. This also means it can affect your business objectives, your bottom line, and your hiring practices. If you are a business owner or leader who is looking to understand the difference between net pay and gross pay as well as how to calculate these values, we created this article to help you out. ## What is gross pay? Gross pay, also known as gross wages or gross income, is a number that shows all of an employee's hourly wages or salary. This amount does not have deductions, taxes, or garnishments removed from it and will be the highest number on a paystub. This amount will include all sources of income a business provides for the employee, including tips they have documented, overtime they worked, and any bonuses they've received. When an employee gets a raise or takes unpaid time off, this will change the gross pay amount. When an employer lists a job as paying $40,000 per year, this amount is the gross pay before any taxes and deductions. For employees, this number is important when they are dealing with lenders. When a person tries to apply for a large loan, to get pre-qualified for a mortgage, or to lease an apartment, a lender will often ask for the applicant's gross income rather than net income. Also, during interviews, when a potential candidate is asked what their salary requirements are, this refers to gross pay. When you get the IRS involved, things change slightly because of taxes on retirement plans. Many retirement plans like 401(k) or 403(b) will not count towards an employee's income as far as the IRS is concerned, but when they contribute to others, like a Roth IRA, these contributions still count as gross income. ### How to calculate gross pay The definition of gross pay is pretty easy to understand. Where it could get a little more complex is when you try to calculate the gross wages for different types of employees. Here is how to calculate the gross income of both salaried and hourly employees. #### Calculating gross pay for salaried employees Employees who receive a fixed amount of pay each year are called salaried employees. According to the U.S. Fair Labor Standards Act (FLSA), they are considered exempt employees, meaning they don't receive overtime pay or qualify for minimum wage. To calculate the gross pay for a salaried employee at each pay period, take the total yearly amount the employee earns and divide it by the number of pay periods. * * * **Gross pay = annual salary / number of pay periods** * * * Here are some common pay periods for salaried employees: **Pay Schedule** **Number of Pay Periods** Weekly 52 Bi-weekly 26 Semi-monthly 24 Monthly 12 For example, if an employee has an annual gross salary of $60,000 and gets paid on a semi-monthly schedule, just plug the values into the formula: * * * **Gross pay = 60,000/24** * * * Which comes to $2,500 on each pay period. #### Calculating gross pay for hourly employees Calculating the gross pay of a salaried employee is simple once you figure out what the pay schedules mean, but calculating the gross pay for hourly employees is a little more complex. According to FLSA, hourly employees are non-exempt employees. So, they must be paid at least minimum wage and get paid for overtime. The basic formula for calculating hourly gross pay is: * * * **Gross pay = hourly pay rate X number of hours worked in the pay period** * * * The pay period for an hourly worker can also vary, but the calculation remains the same because it is based on the number of hours worked during that period. In most cases, it will be 40 hours per week, but it will be less for part-time workers. Let's say an employee gets paid $15 per hour and has worked 36 hours in the last week. Here is the resulting calculation: * * * **Gross pay = 15 X 36** * * * This comes to $540 gross pay for that week. We have not calculated gross wages with overtime yet. Overtime pay goes into effect once an hourly employee has worked 40 hours in a week, after which they receive 1.5 times their base pay. Let's say the same employee worked 46 hours the next week. To calculate the gross pay of that employee for this week, we would use this calculation: * * * **Gross pay = (40 X 15) + (6 X 15 X 1.5)** * * * For this week, the gross pay is $735. ## What is net pay? Net pay is also known as net wages or net income. This is the amount that is printed on an employee's paycheck or gets directly deposited into their account. It will be less than gross pay because it reflects gross pay minus any deductions and taxes. Net pay will also show on a pay stub, often in bolder print than gross pay. Here are some of the things that are deducted from gross pay to calculate net pay: - **Federal income tax withholdings:** Everyone who works in the U.S. has to pay federal taxes, which are deducted from gross pay. - **State income tax withholdings:** Some states have income taxes that must be deducted from the gross. - **Local income tax withholdings:** Some cities have income taxes that must be deducted. - **Social Security and Medicare taxes:** The current Social Security tax rate is 6.2%, and Medicare is 1.45%[\[1\]](#sources). This is the employee's responsibility, and the employer has to contribute an equal amount for a total of 12.4% for Social Security and 2.9% for Medicare. - **Wage garnishments:** Sometimes, a court will order an employer to withhold a part of a worker's wages for [debt collection](https://www.capterra.com/debt-collection-software/). This may be for credit card debt, student loan debt, child support, alimony, and more. - **Health insurance premiums:** If the employee gets insurance through their job, they may have to pay a portion of the premiums. The part they pay is not included in their net wages. This is also a pre-tax deduction, which means it is subtracted from gross salary before income tax is applied. - **Some retirement plans:** Contributions to some retirement plans, like a 401(k), are deducted from net pay, while others are not. Those that are deductible, are pre-tax deductions. - **W-4 information:** The details an employee enters on their W-4 will affect their withholding and their net pay. - **Employee-specific deductions:** If an employee purchases equipment or a uniform they have to use to complete their job, they could deduct these expenses. ### How to calculate net pay Calculating net pay is complex in a different way than gross pay. Once you calculate an employee's gross pay, the fact that the employee is salaried or hourly has no bearing on the net pay, but you do have to keep track of every deduction the employee has and whether those deductions are pre-tax or not. **Calculating net pay should be done in a series of steps:** 1. First, calculate the gross pay. If the employee is salaried, use yearly salary divided by the number of pay periods. If the employee is hourly, multiply their hourly rate by the hours they worked up to 40 hours, and then use 1.5 times their hourly rate for any hours over 40. 2. The next step is to deduct all pre-tax contributions. This includes health insurance premiums and 401(k) retirement contributions. Once these values are deducted from gross pay, you have the employee's taxable income. 3. Next, deduct and withhold all taxes based on the employee's taxable income. This includes federal, state, and local income taxes as well as FICA taxes. 4. Finally, apply any court-ordered garnishments. Once you complete these four steps, you will receive the employee's net pay. Keeping track of hours worked for payroll in [Paylocity](https://www.capterra.com/p/86714/WebPay/) ## Net pay vs. gross pay: key differences The main difference between net pay vs. gross pay is what is deducted to get the final value: **Gross pay** **Net pay** Is calculated by adding all wages, commissions, tips, reimbursements, and bonuses that a worker earns in a given pay period. Is calculated by taking gross pay and subtracting any deductions, including income tax withholdings, FICA taxes, benefits, and garnishments. Net pay is what an employee actually takes home for the pay period. ## Why understanding net vs. gross pay is important Getting gross pay and net pay correct for your employees is not just important to them; it is important to your business. Employers must pay half of their employee's FICA taxes, and these are based on their gross taxable income. Since their gross taxable income is calculated after gross pay deductions but before taxes are applied, voluntary employee deductions can also benefit your business. But if you get the calculations wrong, your business could end up paying more in taxes than it should. To learn more about payroll providers, check out these articles: - [What Is a Payroll Ledger?](https://www.capterra.com/resources/payroll-ledger/) - [Top 5 Payroll Services Benefits](https://www.capterra.com/resources/payroll-services-benefits/) Are you ready to look for a payroll service provider? Another option for calculating net and gross pay is simply hiring a payroll service provider. A payroll service can handle all payroll tasks for you, including calculating gross and net pay for all your employees accurately.  * * * Sources 1. [Topic No. 751 Social Security and Medicare Withholding Rates](https://www.irs.gov/taxtopics/tc751), IRS * * * Looking for Payroll software?Check out Capterra's list of the [best Payroll software](https://www.capterra.com/payroll-software/) solutions. ### Was this article helpful? * * * ## About the Author [### Stephan Miller](https://www.capterra.com/resources/author/smiller/) Stephan Miller is a writer and software developer specializing in software and programming topics. 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