What you earn from a job can determine the taxes you pay and represent your career growth thus far. It's important to understand the difference between your gross pay and your net pay to help you manage your personal finances and create new goals for career advancement and earnings increases. In this article, we explore what gross salary is, what deductions are taken from it and how to properly calculate your earnings.
What is gross salary?
Gross salary refers to the full payment an employee receives before tax deductions and mandatory contributions are removed. This amount is equal to your base salary plus all benefits and allowances, such as special allowances, overtime pay, medical insurance, travel allowance and housing allowance.
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Common allowances on your payslip
A personal allowance is an income you can receive that is tax-free. Your employer may apply this to your pay cheque before calculating how much income tax to deduct from your gross salary. Most UK-based employees under the age of 65 are entitled to personal allowances. Here are some forms of allowances:
- Tax-free personal allowance: In the 2019/2020 financial year, the tax-free personal allowance given was up to £12,500. This figure, however, is subject to limits based on your income level. If you earn more than £100,000 per year, then your allowance is reduced by £1 for every £2 earned above the £100,000 mark.
- Married couple allowance: Married couples and civil partners also qualify for a married couple's allowance. This is where the couples unite to pay taxes as one person. They can decide to share the allowances or one person takes the whole responsibility. In the 2019/2020 financial year, the allowance is £8,915 with a relief limited to 10% of the allowance.
Gross salary vs. net salary
Your gross salary will usually appear as the highest number you see on your salary statement. It's a reflection of the amount your employer pays you based on your agreed-upon salary. On the other hand, your net salary is what you take home after all contributions and taxes are deducted from your gross salary. It's equivalent to gross pay minus all mandatory deductions. For instance, if you normally earn £1,200 while £350 is taken as deductions, then your gross pay will be £1,200, and the net pay will be £850. The gap between your gross pay and net pay is the deductions.
In most cases, net pay will appear in a larger font or bolded to make it easier to distinguish it.
Deductions from gross salary
The reason your gross salary is always higher than your net salary is due to some voluntary and mandatory deductions from your employer and possibly due to the choices you have made about benefits or savings. Here's a look at some of the common salary deductions you will incur in the UK:
Mandatory payroll deductions
In the UK, every employer is required to deduct payroll taxes from the employees' gross salaries before they hand out their pay cheques. There are different tax regulations that employers follow while making deductions on your pay. Your employer cannot make a deduction on your payment without a lawful reason. However, there are a few mandatory tax deductions that are required from your gross pay. Common mandatory tax deductions include:
- Government income taxes
- Student loan repayments
- National insurance deductions
As an employee, you're unable to choose how much your employer will deduct from your pay cheque. To keep yourself updated on how much your employer deducts and where these deductions are going, you can view your payslip.
Your tax code informs your employer about your tax exemptions. For example, a majority of individuals in the UK with a single job or pension are categorised as tax code 1150L, which means you can earn up to a maximum of an annual gross salary of £12,500 before you can start paying tax. This tax bracket caters for most hourly employees' tax codes. It's essential to ensure your tax code is correct to avoid paying either excess or too little tax.
After earning this amount, HMRC will commence deducting a percentage of the extra income you earn on top of this, and the percentage will depend on your projected earnings for the year. Currently, there are several percentage rates of income tax that are applied to taxable income within the past four years.
- People who earn between £0 and £12,500 receive a 0% rate of tax since this is considered as a personal allowance.
- The basic tax rate then stands at 20%, and it applies to all citizens earning between £12,500 and £50,000 per year.
- People who earn between £50,001 and £150,000 receive a 40% rate of tax which is considered as a higher rate.
- The additional rate, on the other hand, stands at 45% and it applies to people who earn over £150,000 per year.
Voluntary payroll deductions
There are some optional payments employers can take from your pay cheque after receiving your permission to do so. Some of the common voluntary deductions that you may see in your payslip include:
- Charitable contributions: Also known as payroll giving, you can take money directly from your pay cheque and donate it to a charitable organization. This is taken from your pay before taxes are deducted. Your employer must register with an official Payroll Giving Agency to set this up.
- Life insurance premiums: You can deduct money from each pay cheque to go towards a life insurance fund that your noted beneficiaries receive after your passing.
- Health insurance premiums for vision, dental and other medical coverage: The deduction amount of health insurance depends on the provider and plans your employer offers. Choose the best plan for you based on your healthcare needs and the coverage your dependents need. Health insurance usually covers prescriptions and doctor's visits.
- Certain retirement earnings: You have the option to get certain retirement voluntary deductions removed from your pay cheque. 401(k) or 403(b) plans don't appear as part of your gross income. Other plans like a Roth IRA contribution does show up as part of your gross income.
- Employer-specific deductions: Other deductions that your employer can inform you about include the equipment and uniform purchase if they are necessary for your job, union dues, flexible savings accounts, etc. In some cases, you can opt out of these deductions, but some companies assume them as mandatory based on your employment contract. Therefore, it's good to inquire from the HR team about any choices you have to make concerning your payment.
How to calculate gross salary
To calculate your gross salary, take a look at your most recent salary statement. How you calculate gross salary will vary depending on whether you get a salary or hourly wage.
Calculating gross income for salaried employees
To calculate gross salary as a salaried employee, you should do the following:
- Determine your gross pay per period.
- Determine the number of pay periods per year.
- Multiply your gross pay by the pay periods in the year.
For instance, you earn £8,000 per month in gross pay from your employer. That means there are 12 pay periods in one year, or 12 times your employer pays you £8,000. This means that you'll get 8,000 x 12 = £60,000 per year.
Calculating gross income for hourly employees
For hourly employees, you can calculate your gross income by doing the following:
- Determine the number of hours you work every week.
- Determine how much you earn in one hour.
- Then multiply the number of hours you work by the amount you earn per hour.
- Multiply your weekly pay by 48 to find out your gross salary per year.
For example, if you earn £20 an hour and work 40 hours a week, your gross weekly salary is £800, your monthly is £3,200 and your gross annual pay is £41,600 per year.
Calculating gross salary with overtime or commission
If you acquire overtime hours each month or a recurring commission/bonus, this amount will be added to your gross monthly income. Note that the hours you've worked may include your rest and meal breaks, on-call time, waiting time, travel time, etc., so your gross pay will also include your overtime payment.
To get your hourly gross pay do the following:
- Determine the number of hours you worked in a given period.
- Determine your hourly pay rate.
- Determine the overtime/commotion/bonus you received in the past year, and then divide this figure by 12 months.
- Add this amount to your gross monthly pay.
If you receive a bonus besides your typical salary, you may receive national insurance, income tax and other related deductions on the extra income. For example, if your check is usually £40,000 and you receive a bonus of £5000, the HMRC takes all of your deductions out of the £45,000 gross salary.
Calculating net salary
You can use the following steps to calculate your net salary as both a salaried or hourly employee. Here are the steps for calculating your net salary:
- Determine your month's gross salary.
- List your deductions and the amounts.
- Add up all deductions.
- Subtract the total amount of deductions from your month's gross salary.
For example, if your monthly payment is £4,000 and your total deductions amount to £500, you'll take home £3,500. You can use this figure to calculate your weekly, daily and hourly rate.