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Gross Pay vs. Net Pay

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When it comes to taxes and compensation, gross pay and net pay are two key terms that need a solid grasp. Usually, these financial concepts can appear intimidating. However, as an employer, it is your duty to calculate an employee's salary precisely after hiring them. Under such circumstances, a lack of understanding between c can have major repercussions for both parties.

Knowing the major difference between gross pay and net pay can make it easier for people to budget and plan accordingly. Furthermore, understanding how specific deductions and tax responsibilities can affect both gross and net pay can help you carry out a clear payroll process. That said, let’s walk you through this gross pay vs net pay guide to help you get a clearer image.

What is Gross Pay?

An employee’s ‘gross pay’ can be described as the salary they have before any deductions like taxes, wage attachments, benefits, and payroll deductions are made.

However, you should know what goes into your gross pay, in case you want to calculate how much money you are actually making and how your total compensation works. Take a look at the major components of gross pay listed below: 

  • Basic Salary: This is what an employee receives, excluding all and any additional compensation such as bonuses, incentives, or perks. It is typically 40-60% of the gross pay.

  • HRA (Housing Rent Allowance): This consists of the amount given to an employee to assist with their monthly housing expenses. These are determined as per the company policies. 

  • Contribution to the Employee Provident Fund: Employees have the option to contribute a percentage of their pay to the Employment Provident Fund (EPF). This amounts to 12% of the employee's base salary. 2

  • Special Allowances: These are additional allowances provided by the company. It is used to cover things like lodging, transportation, and out-of-town expenses.

  • Particular Debts: These refer to the extra amounts offered to employees in perks (monetary components) like pay raises, and non-monetary benefits (company car, accommodation).

  • Bonus: An employee’s bonus could grow over a year. Bonuses are calculated based on how well employees are doing their jobs.

  • Pension: This is another crucial component. When an employee retires, the employer often pays them a certain amount, which is known as a pension. 

How to Calculate Gross Pay?

Calculating the gross salary is quite easy. It can be determined by using the following formula: 

Gross salary = Basic salary + HRA + Other Allowances

Let’s understand this with an example. Consider that Riya has the following salary components: 

  • Basic Salary: ₹30,000

  • House Rent Allowance (HRA): ₹12,000

  • Transport Allowance: ₹2,000

  • Medical Allowance: ₹3,000

  • Statutory Bonus: ₹1,500

To calculate her gross salary, you need to add these components together:

Gross Salary = ₹30,000 + ₹12,000 + ₹2,000 + ₹3,000 + ₹1,500

This makes her total gross salary as ₹48,500. 

Note: Provident fund and income tax are not included in the gross salary calculation.

However, it is a little different for employees who work on an hourly basis. Here’s the formula:

Gross Pay = (Hourly Wage) x (Hours Worked)

So, if Riya works on an hourly basis, and earns ₹150 per hour and works 180 hours a month, her gross pay would be:

  • ₹150 x 180 = ₹27,000

This is Riya’s gross pay for one month before any deductions.

What is Net Pay?

Certain taxes and deductions are deducted from an employee's gross pay. Here, the remaining amount is known as net pay or take-home pay. Some of the deductions here include income tax, retirement account contributions, payroll taxes, health insurance premiums, wage attachments, and several others.

Listed below are a few components that affect the net pay:

  • Base Salary or Hourly Wage: This can be defined as the amount that you earn yearly or hourly. It is the main part of your income. 

  • Overtime Pay: If you put in more time than your normal schedule, you can be eligible for overtime compensation. This is usually determined at an even higher rate than your hourly wage.

  • Incentives and Bonuses: In addition to the base salary, some companies offer additional pay to their employees based on their performance. This could either be a one-time incentive or something that is handed out periodically. 

  • Commissions: You might earn commissions depending on how well you sell, in case you have a sales job. This is usually calculated by looking at the percentage of the total sales you make.

How to Calculate Net Pay? 

One of the most important components of net pay is the tax liability. It is crucial to keep track of these liabilities because they are subject to change every year. Nonetheless, you can calculate your net pay by using the formula listed below:

Net Salary = Gross Salary – Statutory deductions (EPF, ESIC, Gratuity) – Income Tax (TDS, PT)

Let’s understand this with an example. Shobhika has a gross salary of ₹60,000 per month. Her deductions include: 

  • Employee Provident Fund (EPF): ₹3,600

  • Tax Deducted at Source (TDS): ₹4,000

  • Professional Tax (PT): ₹200

Total deduction: ₹7,800

Therefore, Shobhika’s net salary will be: ₹60,000 - ₹7,800 = ₹52,200 per month. 

Gross Pay vs. Net Pay Rules and Deductions 

Let’s take a look at the basic rules and deductions that can clear the gross pay vs net pay confusion. 

Gross Pay Rules

Some of the general rules of gross pay in India include:

  1. Income Tax Act

    • Taxable Allowances: These are specific allowances, like HRA, that are partially exempt from tax under certain conditions.

    • Section 10 Exemptions: These are certain components of gross salary, such as Leave Travel Allowance (LTA), which are exempt from tax under specific conditions.

  2. Minimum Wages Act, 1948

    The gross salary must comply with the Minimum Wages Act. This is to mandate that it stays above the minimum wage set by state governments.

  3. Labour Laws Bonus Act, 1965

    This is about the bonuses that are paid to employees. It must stay in line with the Payment of Bonus Act, which mandates a minimum bonus of 8.33% of the salary or wage earned. 1

Net Pay Rules

Some of the general net pay rules in India include:

  1. Tax Deduction at Source (TDS)

    Here, your tax gets deducted from the gross salary as per the income tax slab under the Income Tax Act, 1961. As an employee, you can claim deductions under several sections (80C, 80D, etc) to lower your taxable income.

  2. Provident Fund (PF)

    • Employee Contribution: As a part of this, employees should contribute 12% of their basic salary towards the EPF under the Employees’ Provident Fund and Miscellaneous Provisions Act, 1952. 2

    • Employer Contribution: Here, the employer must also contribute 12%, where 3.67% is granted to EPF every month, and the remaining 8.33% goes to the Employee Pension Scheme (EPS). 3

  3. Professional Tax

    Professional tax refers to a state-specific tax. However, note that the deduction amount is entirely based on salary slabs, which is determined by the respective state government. 4

  4. Employee State Insurance (ESI)

    ESI contributions are mandated for employees who earn a gross salary of up to ₹21,000 per month. Here, the employer contributes 3.25% and the employee contributes 0.75% of the gross salary. 5

  5. Gratuity

    As per the Payment of Gratuity Act, 1972, employees who have completed 5 years of continuous service are eligible for this. Gratuity is basically a lump-sum payment which is made to an employee when they retire or leave the firm. 

  6. Loan Repayments and Other Deductions

    As per this, any loans taken by the employee from the employer or via salary deductions will eventually reduce the net pay. Other deductions that affect the net pay include voluntary contributions like Voluntary Provident Fund (VPF), donations, or insurance premiums.

Conclusion

Understanding the differences between gross and net pay is crucial for both employers and employees to ensure clarity and compliance with the salary regulations. As you manage payroll, keeping track of gross wages, deductions, and final net pay is non-negotiable. Fortunately, you don’t have to carry out these calculations manually. Several tools can handle these calculations effortlessly, wishlist you focus on other important aspects of your business.


Moreover, if you are exploring other ways to manage finances or looking for the best trading platform to test your investment strategies, taking advantage of these tools can ease your financial operations even further. All in all, whether it is managing payroll or investing, having the right resources at hand can make all the difference.

Disclaimer: Investments in the securities market are subject to market risk, read all related documents carefully before investing.

This content is for educational purposes only. Securities quoted are exemplary and not recommendatory.

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Frequently Asked Questions

What is the meaning of Gross Pay?

Answer Field

Gross pay can be defined as the total salary an employee earns before any deductions. This includes basic salary, bonuses, allowances, and other benefits offered by the employer.

What is the meaning of Net Pay?

Answer Field

Net pay, aka take-home pay, is the amount an employee receives after all deductions (income tax, provident fund, and other contributions) have been subtracted from the gross pay.

What are the common deductions from Gross Pay?

Answer Field

Some of the common deductions from gross pay include provident fund (PF), income tax (TDS), professional tax, and Employee State Insurance (ESI). It also involves loan repayments and other voluntary contributions like health insurance premiums.

How can I calculate my Net Pay from my Gross Pay?

Answer Field

To calculate your net pay from gross pay, you need to subtract all the deductions ( income tax, provident fund, professional tax, ESI, and other contributions) from your gross pay. The resulting amount will be your net pay.

Why is there a difference between Gross Pay and Net Pay?

Answer Field

The difference between gross pay and net pay arises from several deductions. This includes income tax, provident fund, professional tax, and other statutory or voluntary deductions. One of the major points while describing gross pay vs net pay is the reduced amount that an employee takes home.

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