Here's The Difference Between Net And Gross Income & Why It's Important
When it comes to calculating your pay, understanding your net and gross income can make a significant difference. It can help you plan your expenses, create a budget, and make informed decisions about your finances. Additionally, for employers, it is essential to accurately calculate and record payroll and taxes to ensure that your business is compliant with tax laws and regulations.
In Canada, the income an employee negotiates with an employer is usually discussed and contracted as gross income. That's because the deductions that are taken at source can be different depending on the personal situation of the employee. Eg. Employees can also have different personal tax exemption amounts. This will be true if they are over 65, are a primary caregiver, or if they have a disability. There are other personal circumstances that can affect the personal tax exemption amount of an employee.
Thus, the net income can be different for two employees who are actually being paid the same gross amount by the same employer. Contracting employees by gross income makes compensation fair within a company, and net income reflects each employee’s unique circumstances beyond the agreed-upon gross pay.
What is Gross Income?
As a Canadian company, it is important to note that the Canadian Revenue Agency (CRA) requires employers to deduct various taxes and contributions from employees' pay. These deductions include federal and provincial/territorial income tax, Canada Pension Plan (CPP) contributions, Employment Insurance (EI) premiums, and any other deductions agreed upon between the employer and employee.
Gross income refers to the total amount of income earned before any deductions or taxes are taken out. This includes all sources of income earned by an individual, such as salary, wages, tips, bonuses, commissions, and any other income received from an employer.
What Is Net Income?
Net income, on the other hand, is the amount of income an individual takes home after all deductions and taxes have been taken out. In Canada, these deductions include income tax, Canada Pension Plan (CPP) contributions, Employment Insurance (EI) premiums, and any other deductions agreed upon between the employer and employee, such as benefits or pension contributions.
How To Calculate Gross Income
Gross income is calculated by adding up all of an employee’s earnings before any deductions or taxes are removed. For example, if they earn $50,000 per year, their gross income would be $50,000. If they receive a bonus of $5,000, their gross income for that year would be $55,000.
How is Net Income Calculated?
Calculating net income requires subtracting all deductions and taxes from the gross income. The deductions and taxes that are taken out of the employee’s paycheque will depend on a variety of factors, such as the province of residence, income level, status with respect to EI and CPP, and any other deductions agreed upon between the employee and employer.
In Canada, income tax is based on a progressive tax system, which means that the more someone earns, the higher their tax rate will be. CPP and EI contributions are also deducted from their paycheque based on their income level. An employer will also deduct any other agreed-upon deductions, such as pension contributions or benefits.
To calculate net income, you can use a pay stub generator like OneTwoPay. Your pay stub will show gross income, deductions, and taxes, as well as net income. For example, if gross income for a pay period is $2,500, and deductions and taxes total $750, the net income for that pay period would be $1,750.
Calculating gross income is relatively straightforward while calculating net income is more complex. Employers and employees both need to understand these concepts to ensure that payroll and taxes are calculated accurately and that individuals are receiving their full compensation.