Net Salary: Definition and Calculation
Net Salary is a key financial term you need to understand before setting up payroll for your employees.
Net salary refers to the amount that workers receive once all taxes and deductions are subtracted from the initial gross pay.
This article will show you exactly what net salary represents, what type of deductions it includes, how it’s calculated, and everything else that may come in handy in understanding net salary for your small business accounting.
Keep reading to learn about:
What Is Net Salary?
Net salary, or net pay, is the salary employees receive after taxes and other financial withdrawings have been deducted from their initial salary.
Net salary is the salary employees take home with them after taxes and withdrawings have been removed from their initial salary.
These taxes and deductions include (but aren’t limited to):
- Income taxes from the federal, state, and local government
- Garnishments for child support, credit card loans, student loans, etc.
- Retirement savings plan
- Health, disability, and/or life insurance
- Charitable donations
- Unpaid absences and time off
- Outstanding travel advances
As you can probably notice, a portion of these business expenses, such as donations and insurances, are voluntary employee choices. Whereas other obligations, such as income taxes, are mandatory expenses every employee pays.
That’s why we divide net pay deductibles into two main categories: voluntary and mandatory.
For mandatory tax deductions, employees must fill out a financial document known as a Form W-4. As an employer, the form lets you know the correct tax amount you need to withhold from your employee’s paycheck. It’s important that this form is completed accurately, otherwise, your employees may end up underpaying their taxes, and owing large sums of money to the Internal Revenue Service (IRS).
For more advice on how to set up payroll and handle the different types of income taxes, head over to our guide on understanding payroll.
Net Salary vs Gross Salary
Gross salary represents an employee’s total earnings - before deductions and withholdings - for a given time period. This amount is the highest number in the pay stub, and it usually appears at the top of the document.
Then, what’s left to employees after deductibles are subtracted from their gross salary is their final net salary.
How to Calculate Net Salary?
1. Calculate Gross Salary
The very first step in calculating net salary is determining your employee’s monthly gross salary.
A pay period refers to the time frame you’re paying your employees for. There are several types of pay periods based on how many times employees are paid within a year.
Here’s a table summarizing the most common types of pay periods:
After you decide how many pay periods you’ll have within the year, divide the annual salary by that number, to calculate the exact gross pay.
2. Add Up Taxes and Deductions
Next, you have to calculate all taxes and deductions that will be removed from the gross pay. They might include both mandatory and voluntary deductions such as federal tax, medicare tax, retirement funds, insurance expenses, and more.
Add all taxes and deductions to calculate the total sum to be subtracted, for the specific pay period.
3. Calculate Net Salary
Now that you’ve calculated gross salary and the sum of deductions, determining net pay is a piece of cake.
Simply subtract taxes and deductions from the gross pay, as shown in the formula below:
Net Salary = Gross Salary - Taxes and Deductions
Streamline Your Net Salary with Payroll Software
Manually calculating and keeping track of employee salaries can be a time-consuming and tedious process.
That’s why most businesses make maximum use of intelligent software and opt for automated tools that streamline payroll processes for them.
Deskera is one of the best payroll software for small businesses today.
You can set up all your mandatory and voluntary deductions, bonuses, and other pay components in a matter of seconds using the Deskera Payroll Software. You can even use the platform to invite employees into their workspace and fill in their personal details, reducing the burden of having to add every detail manually.
Once all employee specifics are filled out, the software will automatically calculate net salary for every pay period, as well as distribute the payment directly to the employees’ bank accounts.
All this, without you having to lift a finger!
The best part? By simply downloading the Deskera mobile app, you can access the software from any device with an internet connection.
You can even give the platform a try out right away, by signing up for a completely free trial.
Key Takeaways
And that’s a wrap! We hope this guide was useful in understanding the basics of net salary, and how you can calculate it.
Here’s a quick recap of some of the main points we’ve covered:
- Net salary is the salary employees earn after taxes and other deductions are removed from their initial gross salary. Some of the most common salary deductions include federal and state taxes, garnishments, insurance expenses, and retirement savings.
- To determine an employee’s net salary, you have to calculate gross salary, and then deduct taxes and withdrawings from the amount.
- Instead of handling employee payrolls, and calculating net salary manually, you can use payroll software like Deskera to automate your entire payroll process and make handling salaries a child’s play.