Many people are left seeing red when they look at their first paycheck at a job. After taxes are deducted, an agreed-upon salary or hourly rate can seem significantly smaller. Gross pay can include a base salary, bonuses, incentive pay, overtime pay, tips, reimbursements, vacation pay and other monetary compensation from an employer. However, that won’t be what you see on your paycheck. Several deductions are taken from your gross pay, which ultimately leaves you taking home less money than you earn. Once you identify and understand the various deductions that apply to your situation, calculating your take-home pay isn’t difficult.
Start by Determining Gross Income
Your net pay is the amount you take home on your paycheck. Before you can determine what that pay is, you need first to calculate how much you can expect in gross pay. If you are a salaried employee, divide your annual salary by how often you’ll be paid. Since most people are paid every two weeks, you would divide the yearly salary by 26 if that’s how your employer distributes paychecks. So, if you make $80,000 as your annual salary, use a salary calculator to determine that your gross earnings would be $3,077 every other week. Some employers may offer weekly, bi-monthly and monthly pay periods.
If you are paid an hourly wage, multiply your hourly wage by the number of hours you work per week. As an example, if you are paid $27 per hour and worked 40 hours in the past week, your gross pay for the week would be $1,080. A wage calculator can help you easily and quickly adjust your math if the situation changes.
Gross pay may not tell the whole story of your gross income, though. Your gross income also includes all sources of taxable income that you receive. So, for example, if you got a bonus from your employer for any reason, that counts towards your gross income. If you have a rental property, the rent you earn is also part of your gross income for tax purposes. Similarly, if you earn interest on savings accounts or investments, the money you make is also part of your gross income. Beyond that, the Internal Revenue Service allows some adjustments before determining your total gross income.
Assess Withholding Allowances
Get an updated copy of your Form W-4, Employee's Withholding Allowance Certificate. You’ll need it to figure out your income tax withholding allowance. Form W-4 is the form your employer uses to determine how much income tax should be withheld from your earnings. It’s important to be as detailed and accurate as possible so that the correct tax is withheld. If your marital status or financial situation has dramatically changed in the past year, fill out a new Form W-4. Claim all relevant allowances on the Form W-4. If you claim a lot of allowances, your employer will withhold less income tax from your pay.
Use an Annual Income Calculator
What is the formula for net income? Here’s a big part of it. Acquire a copy of IRS Publication 15 and utilize its Table 5 to use the percentage method and determine how much tax will be withheld. Multiply the number of allowances you are claiming by one withholding allowance for your payroll period as established by Table 5. So, if you are an unmarried employee who is paid bi-weekly for 2018, the table states that one withholding allowance is $159.60. Using the example of a biweekly gross pay of $2,000 for a single person claiming three allowances from Table 5 on page 45, you would deduct $478.80 ($159.60 x 3) for withholding allowances. Using the Percentage Method Tables for Income Tax Withholding for this example, the part of the paycheck subject to withholding for a single person would be $1,521.20 ($2,000 - $478.80).
Next, look at the income tax withholding table that fits with the pay period. The table reveals that for a biweekly pay period of a single person with wages over $509 but not more than $1,631, the place of business should withhold $36.70 plus 12 percent for earnings more than $509. The previously established taxable wage of $1,521.20 qualifies, so deduct a total of $158.16 (($36.70 + (12 percent x ($1,521.20 - $509)). The result is $1,363.04 (1,521.20 - $158.16).
Deduct State and Local Taxes
You will probably need to deduct both state and local taxes. As of 2018, only seven states have no individual income taxes. Residents of Florida, Alaska, South Dakota, Nevada, Texas, Washington and Wyoming don’t need to worry about state income taxes. Also, Tennessee and New Hampshire don’t tax paychecks, but they do tax income from investments. Unless you live in one of those states, deduct state and local income taxes from your gross pay.
Determine FICA Taxes
Factor in Medicare and Social Security taxes, too. These are payroll taxes that are called FICA (Federal Insurance Contributions Act) taxes. As their name suggests, they’re used to pay for Medicare and Social Security. Determine and deduct these taxes. For the Social Security tax in 2018, you will pay 6.2 percent of the first $128,400 of your gross income. That’s a maximum of $7,960.80 that you’d have to pay for that part of the FICA tax. Then there’s the Medicare tax which is 1.45 percent of all the money you earn. (There’s no cap on the Medicare tax.) You’re not the only one paying FICA taxes, though. Your employer pays as much FICA taxes as each employee does.
To determine how much you’ll need to pay for the Social Security portion of the FICA tax, multiple the Social Security tax rate of 6.2 percent by your gross income. Using an example of taking home a gross pay of $2,000, this amounts to $124 ($2,000 x 6.2 percent). Multiply the Medicare tax rate of 1.45 percent by your gross pay. So, using the same example, you would arrive at a total of $29 ($2,000 x 1.45 percent). Deduct your combined FICA tax of $153 from your gross pay.
Review Other Deductions
If you have a 401(k) or 403(b) retirement savings plan that’s sponsored by your employer, you’ll need to deduct the full amount that you contribute on each paycheck before calculating your federal income tax or determining your take-home pay. Many businesses deduct 401(k) contributions on a pretax basis, which is beneficial for employees.
If you have any wage garnishments, union dues or pre-arranged charitable contributions, you’ll need to deduct that from your gross pay before you can determine your net pay. Similarly, if you get insurance through your employer, you will likely need to deduct the amount you pay for health insurance, dental insurance, life insurance and vision insurance from your paycheck. In some cases, that is charged on only one paycheck per month. Employee-paid health insurance that’s only paid directly by your employer shouldn’t be deducted.
Did you appear on a game show and win a few hundred bucks? If so, that’s taxable and considered part of gross income. The same is true if you win anything in your local lottery, whether you get a small amount from a scratch-off ticket or hit the jackpot. Also, if you get any perks on the job that could have a monetary value, they are taxable even though they won’t show up on your paycheck under the listing for gross wages. They are nevertheless included as taxable gross wages on your W-2. Perks such as a monthly health club membership, the leasing of a car, wardrobe compensation, moving expenses, gift certificates and other bonuses will likely count as gross income.
Consider 2018 Tax Law Changes
New tax laws in place for 2018 can lower individual income tax rates by 1-to-3 percent. The IRS wants you to have the proper amount withheld from each paycheck, so incorrect withholding could result in a large tax bill in 2019, rather than the coveted refund check people dream about come April. Use the official IRS Withholding Calculator if you need help.
In 2018, the standard deduction for a single person is $12,000. The standard deduction for a married couple filing jointly is $24,000. The standard deduction for a married person filing separately is $12,000. The head of household deduction for 2018 is $18,000.
When calculating individual taxable income, there was a personal exemption of $4,050 in 2017 that was eliminated for all subsequent years. The supplemental withholding flat rates for supplemental earnings up to $1 million are 25 percent for 2017 and 22 percent for 2018. For supplemental wages greater than $1million, it’s 39.6 percent in 2017 and 37 percent in 2018.
Consider 2017 Tax Law Changes
If you still need to file your taxes for the 2017 tax year (which is typically filed in 2018), keep in mind that several tax rates or details will be different. For example, while the 1.45 percent Medicare tax rate and 6.2 percent Social Security tax rate remain the same for both 2017 and 2018, the Social Security wage base is $127,200 in 2017, whereas it is $128,400 in 2018.
Standard deductions are dramatically different for 2017 and 2018. In 2017, the standard deduction for a single person was $6,350. The standard deduction for a married couple filing jointly was $12,700. The standard deduction for a married person filing separately was $6,350. For the head of the household, the 2017 standard deduction is $9,350. A variety of other tax law changes apply, so be sure to check with an accountant before filing taxes for 2017.
Prioritize Knowing Your Net Pay
Your take-home pay is the amount you should consider when discussing how much money you make. Why is this important? In the real world, you need to know much cash flow you’ll have each month. No matter how much your gross income is, you can’t make vacation plans with the value of a gym membership. You need to have clear expectations about how much money is going to come into your household in the upcoming months. Even though a mortgage company may consider your gross pay to determine whether you are approved, you need to personally consider whether you can make monthly payments out of your net income.
For example, two people who are earning the same salary at the same company could end up with dramatically different net incomes, so avoid making assumptions based on your gross income. Consequently, don’t accept a job offer with a certain salary and look for a new apartment based on your gross income. While a landlord may be happy to approve you based on a high pre-tax salary, the reality of struggling to make rent each month with a lower net income isn’t likely worth it. So, while a high gross income offers a variety of advantages, knowing your net income empowers you to effectively plan how much money you can afford to spend on entertainment, travel, charitable giving, eating out and other aspects of your life.
- CNBC: Here's the Reason You Need to Check Your Pay Stub
- IRS: Employer's Tax Guide 2018
- CNN: Taxes You Have to Pay
- IRS: Form W-4, Employee's Withholding Allowance Certificate
- IRS: Publication 15
- Journal of Accountancy: Social Security Administration Announces Small Increase in 2018 Wage Base
- Social Security: Research, Statistics, & Policy Analysis
- IRS: Withholding Calculator
- In 2012, the maximum salary taxable earnings limit for Social Security tax is $110,100. This means that once you've earned this amount, your employer no longer deducts Social Security taxes from your pay. You'll still have to pay Medicare tax. The salary limits and FICA contributions are subject to change.
Robin Raven is an experienced journalist and author. She has a BFA in writing from the School of Visual Arts and loves to write about personal finance. She has contributed to USAToday.com, The Huffington Post, The Nest, Grok Nation, and many other publications.