Career Development

Gross Pay: Definition, How to Calculate and Example

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Gross pay is one of the terms you’ll need to know when discussing and negotiating your salary. If you want to earn what you’re worth, you’ll need to understand gross pay and how it becomes net pay. In this article, you can learn what gross pay is, how deductions can change your gross pay, and why gross pay is important.

What is gross pay?

Your gross pay is the total amount your employer pays you. If you have a fixed salary, then your gross pay is the value of that salary, which you’ll find in your employment contract. 

If you work on an hourly basis, then your gross pay may vary from week to week. You can calculate your gross pay with this formula: Hourly rate x hours you worked = Gross pay.

Gross pay can increase if you earn any additional money during a pay period. 

For example, you might receive payments such as:

  • Overtime rates
  • Sales bonuses
  • Commission
  • Shift bonuses
  • Profit share
  • Performance bonuses

However, that doesn’t mean your gross pay is what you actually receive at the end of each pay period. Your gross pay is subject to several deductions before you receive it. What’s left after those deductions is your net pay.

How deductions can change your gross pay 

Deductions can change your gross pay because they will be subtracted from your pay before you receive it. For example, you may see a job advertised at $24,000 per year plus benefits. You submit your resume, pass the interview, and start the job. 

Your gross pay is now $24,000 per year or $2,000 per month. The value of your benefits is not a part of your gross pay calculation because you don’t receive these benefits directly in the form of cash. 

Before the accounting team can cut your check, they make several deductions. 

There are three types of deductions:

  • Pre-tax deductions
  • Tax withholding
  • Post-tax deductions

Pre-tax deductions

These are payments that are taken directly from your salary, but which are not subject to tax. Because they’re tax-free, you’ll see these deducted from your gross pay before any tax calculations. Common examples of pre-tax deductions include health insurance and retirement savings, such as 401(k). 

The money remaining after these deductions is your taxable salary. If your gross pay was $2,000 and you had $100 in pre-tax deductions, you now have a taxable salary of $1,900. 

Tax withholding

Now, the accounting team will work out your tax contributions. These can include things such as:

  • FICA, for social security and Medicaid contributions
  • Local taxes
  • State income tax
  • Federal income tax
  • Any other tax that applies to you

Your employer pays these taxes directly to the relevant authority on your behalf. In the example above, your taxable salary was $1,900. Let’s say that your total tax withholding totals $150, which leaves you with a post-tax income of $1,750. Next comes the final step: post-tax deductions.

Post-tax deductions 

Most post-tax deductions are things that you’ve agreed directly with your employer, which could include the cost of uniforms, contributions to charity, union dues or anything else that is not exempt from tax. Some retirement savings plans are also taxable, such as a Roth 401(k).

Now, let’s say that your post-tax deductions were $50. The accounting team takes this from your salary, which in this example leaves you with a net pay of $1,700.

Your gross pay is still $2,000, as this is what your employer has paid you. However, $300 has been withheld, so the check you receive is the value of your net pay: $1,700.

Why gross pay is important

You may be wondering why employers talk about gross pay rather than net pay. Why advertise a job as paying $100 per week if you will only receive a check for $75 when payday rolls around?

Gross pay is important for several reasons:

  • Calculating taxes
  • Credit scoring
  • Knowing what you’re worth

Calculating taxes 

Your tax liability is a percentage of the total amount that you earn. You need to know your gross pay so that you can be sure that you’re not overpaying—or underpaying—your taxes. Remember, your taxable income is your gross pay minus any pre-tax deductions.

Credit scoring

When you fill out an application for a loan, credit card or mortgage, you’ll need to provide your salary. This amount is always your gross pay, regardless of tax or deductions. The higher your gross pay, the more credit you can apply for. 

Knowing what you’re worth

Gross pay is what your employer pays for your time. It gives a better idea of what you’re worth to the company than net pay, which can vary from person to person. You can easily compare your gross pay with salaries in other positions and see if you’re earning your full market value.  

Gross pay example

Imagine that you apply for a job with a base salary of $46,800 per year plus commission. You get paid every two weeks and you contribute $100 from each check to your 401(k). 

During your first two-week period, you make enough sales to earn a $200 commission.

Your total taxes, including FICA and income tax, work out to 10% of all taxable earnings. Your payslip for a two-week period might look like this:

Base salary: $1,800

Commission: $200

Gross pay: $2,000

401(k): $100

Tax withholding: $190

Net pay: $1,710

While your employer will have paid out $2,000, which is your gross pay, the check you receive is $1,710 net pay.