Gross Pay vs. Net Pay: What’s the Difference and Why It Matters

Running a small business means wearing many hats, and payroll can be one of your biggest headaches. Between calculating wages, managing deductions, and staying tax compliant, there's a lot to keep straight. 

At the heart of it all is understanding gross pay versus net pay.

Get these numbers wrong, and you could face unhappy employees, tax penalties, or compliance issues. Get them right, and you'll build trust with your team while keeping your business running smoothly. Let's break down everything you need to know about gross vs net pay—from basic definitions to practical calculations that affect your bottom line.

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What is gross pay?

Gross pay, or gross salary, is the total amount your employee earns before any deductions. 

• For hourly workers, this means their base wages, overtime pay, bonuses, and commissions all added together. 

• For salaried employees, it's their annual salary broken down into pay periods, plus any additional compensation like bonuses.

When you're hiring someone at "$50,000 a year" or "$20 per hour," you're talking about gross pay. It's also what the government looks at to determine tax brackets and what lenders check for on loans.

What is net pay?

Net pay is what your employees actually receive after all deductions have been taken from their gross pay. These deductions include:

• Federal and state taxes.
• Social Security and Medicare.
• Health insurance premiums.
• Retirement contributions.
• Other voluntary deductions.

This "take-home pay" gives your team a true picture of their spending power. When employees budget for rent or plan major purchases, they need to know their net pay.

The key differences between gross income and net income

What it is 

Gross pay is the total amount earned before any money comes out. Net pay is what's left after deductions—it's the actual amount your employees take home.

What it includes

Gross pay counts everything: regular wages, overtime, bonuses, commissions, and taxable reimbursements. Net pay is what remains after subtracting taxes, insurance premiums, retirement contributions, and any other deductions.

What it’s used for

When you offer someone a job, you discuss gross pay. When they plan their monthly budget, they use net pay. Gross pay is also used for tax bracket determination and loan applications. 

Whether taxes are applied 

Taxes are calculated based on gross pay first. Then those taxes, along with other deductions, are subtracted to arrive at net pay.

What employees receive

Your team's paychecks or direct deposits show both numbers, but net pay is the amount that actually hits their bank accounts.

How to calculate gross pay 

Figuring out gross pay looks different for salaried vs. hourly employees. Here's how to get it right:

How to calculate gross pay for salaried employees.

For salaried employees, it's straightforward: Take their annual salary and divide it by the number of pay periods in your year.

For example, if you pay someone $50,000 annually on a biweekly schedule:

$50,000 ÷ 26 pay periods = $1,923.08 per paycheck

How to calculate gross pay for hourly employees.

For hourly employees, you'll need to factor in regular hours, overtime, and any additional pay. Follow these steps:

• Multiply their hourly rate by hours worked
• Add overtime pay (usually 1.5x regular rate)
• Include any bonuses or commissions

Let's say your employee makes $20/hour and worked 45 hours this week:

• Regular pay: $20 × 40 hours = $800
• Overtime pay: $30 × 5 hours = $150
• Total gross pay = $950

Want to quickly calculate your gross pay based on hours worked, including overtime? Try Homebase’s free hourly salary calculator. 

How to calculate net pay

Calculating net pay starts with your employee's gross pay, but getting to the final take-home amount requires several steps. 

First, you'll need to handle the mandatory deductions — these aren't optional for you or your employees. 

These include: 

• Federal income tax (which varies based on their W-4 and tax bracket)
• State and local taxes where applicable
• Federal Insurance Contribution Act (FICA) taxes (6.2% for Social Security and 1.45% for Medicare)

Next come the voluntary deductions. These are benefits your employees have chosen, like health insurance premiums, 401(k) contributions, or FSA/HSA deposits. While optional, these deductions are just as important to calculate accurately as the mandatory ones.

Let's see how this works in practice:

Say your employee is single and works in California. If they earn $67,600 annually ($2,600 biweekly), here's how their deductions break down:

Federal tax (22% bracket for $67,600):

• 10% on first $11,600 = $1,160
• 12% on $11,601 to $47,150 ($35,549) = $4,265.88
• 22% on remaining $20,450 = $4,499 

Total federal tax: $9,924.88 (approximately $381.73 biweekly)

California state tax: With a taxable income of $67,600, they belong to the 8% bracket ($55,866 to $70,606). Their base tax will be $1,929.52 and 8% of the income amount over $55,866 — or, 8% of $67,600 - $55,866 = 8% of $11,734 = $938.72. 

Total state tax: $1,929.52 + $938.72 = $2,868.24 (approximately $110.32 biweekly)

Other tax deductions:

• Social Security (6.2%): $161.20 biweekly 
• Medicare (1.45%): $37.70 biweekly 
• Health insurance premium: $125 biweekly 
• 401(k) contribution (5%): $130 biweekly

Their total tax deductions come to $945.95, making their net pay come to $1,654.05 biweekly—this is what hits their bank account every other Friday.

Note: This example assumes the employee is single, works in California, claims standard deductions, and has no other adjustments to their taxable income. Tax rates and calculations would differ in other states or with different filing statuses.

Why does gross vs. net pay matter for small businesses?

From your cash flow to your team's trust—these numbers influence all the things that keep your business running.

Accurate payroll processing

Mixing up gross and net pay can create a snowball effect of problems. When you use the wrong figure for calculations, it throws off everything from tax withholdings to benefit deductions. 

This isn't just about getting the math right—it's about maintaining accurate records for tax season, keeping your employees' benefits properly funded, and ensuring your payroll taxes are spot-on every time.

Budgeting for payroll costs

Smart business planning requires understanding both numbers. Your gross payroll helps you project total labor costs, including taxes and benefits you'll need to cover as an employer. But net pay figures tell you exactly how much cash you need in your account for each payday. 

This distinction becomes especially important during growth periods when you're planning to hire or give raises,you'll need to budget for more than just the salary figures you discuss with employees.

Tax compliance

Tax authorities don't look kindly on mistakes, even honest ones. Using gross pay instead of net pay (or vice versa) for tax calculations can lead to underpayment penalties or trigger audits. Plus, you're responsible for depositing the correct amount of payroll taxes on time. 

Getting this wrong means playing catch-up with the IRS—something that can strain both your time and your business's finances.

Employee expectations

Clear communication about pay builds trust with your team. When employees understand exactly how their paychecks are calculated, they're better equipped to plan their finances and appreciate their total compensation package. 

This transparency can improve satisfaction and reduce payroll questions. When your team understands the relationship between gross and net pay, you help them make more informed decisions about benefits and tax withholdings.

Common payroll deductions that impact net pay

Let's break down what actually comes out of your employees' paychecks:

Mandatory deductions

These are the deductions required by law that every employer must withhold from employee paychecks. There's no opting out of these—they're non-negotiable for both you and your employees:

• Federal income tax: The nationwide tax calculated using tax brackets. The percentage increases as income rises, and the amount is based on your employees' W-4 forms and filing status.

• State income tax: A percentage-based tax that varies by state. Nine states don't charge income tax: 
  
  • Alaska
  • Florida
  • Nevada
  • New Hampshire
  • South Dakota
  • Tennessee
  • Texas
  • Washington
  • Wyoming 

Everywhere else, you'll need to withhold this from employee paychecks.

• Social Security: Employers and employees each contribute 6.2% of wages towards social security, up to the taxable maximum of $176,100 (2025 limit). This money funds retirement and disability benefits for American workers.

• Medicare: Employers and employees each pay 1.45% with no wage cap. Together with Social Security, these make up FICA taxes.

• Wage garnishments: Court-ordered deductions that require you to withhold a portion of an employee's earnings. These might be for unpaid taxes, child support, student loans, or other legal obligations. When you receive a garnishment order, you're legally required to comply.

Voluntary deductions

These are optional benefits that employees choose to pay for through payroll deductions. While not required by law, once an employee elects these benefits, you must deduct them accurately:

• Health insurance premiums: The portion of health insurance costs that employees pay through payroll deductions. This might include medical, dental, and vision coverage for themselves and dependents.

• Retirement contributions: Deductions for 401(k) or similar retirement plans. Employees choose their contribution percentage, and you'll often match a portion as an employer benefit.

• FSA/HSA contributions: Pre-tax deductions for Flexible Spending Accounts or Health Savings Accounts. These help employees save for medical expenses, but they have different rules and limits.

• Life insurance premiums: Optional life insurance coverage beyond any employer-provided basic coverage. Employees can usually choose their coverage amount and beneficiaries.

• Disability insurance: Short-term or long-term disability insurance premiums that provide income protection if an employee can't work due to illness or injury.

How payroll software can simplify gross vs. net pay calculations

Stop spending hours with calculators and spreadsheets. Modern payroll software handles the complex math automatically while keeping you compliant. Here's what good payroll software does for you:

Automates gross-to-net calculations.

Connect your time tracking to payroll, and the software calculates everything—from regular hours to overtime, taxes to deductions. No more manual number-crunching or wondering if you got the math right.

Ensures correct tax withholding and deductions.

Tax rates change constantly, but your software stays current. It applies the right rates, considers multiple state requirements, and handles all deductions automatically. You get peace of mind knowing your calculations are accurate and compliant.

Syncs with time tracking.

When your time tracking connects directly to payroll, you eliminate double entry and reduce errors. Your team's hours flow straight into payroll calculations, including different pay rates for different roles or shifts.

Generates pay stubs.

Give your team detailed pay stubs that show exactly how their net pay was calculated. This transparency helps everyone understand their deductions and reduces payroll questions.

Make payroll calculations simple with Homebase

Stop struggling with complex payroll calculations and paperwork. Homebase turns hours of work into minutes by automating your entire payroll process—from calculating wages to filing taxes.

Here's how Homebase makes payroll easier:

• Connects time tracking directly to payroll, so every hour worked is calculated accurately
• Handles both hourly and salary calculations automatically
• Calculates and files all required taxes on time
• Processes employee deductions without the manual math
• Generates detailed pay stubs that keep your team informed
• Maintains audit-ready records of everything

But Homebase isn't just payroll software. It's your complete business management solution. Beyond payroll, you get tools for scheduling, team communication, hiring, and HR compliance—all working together seamlessly.

Ready to simplify your payroll process? Let Homebase handle the complex calculations while you focus on growing your business.

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FAQs about gross pay vs. net pay

Which is greater, gross pay or net pay?

Gross pay is always higher than net pay since net pay is what's left after all deductions come out of gross pay. This is why the salary you discuss during hiring (gross pay) is always more than what lands in an employee's bank account (net pay).

Is gross pay or net pay used for tax filing?

Tax brackets and filing requirements are based on gross pay. This is what the IRS uses to determine tax rates and required withholdings. However, your employees' W-2 forms will show both gross wages and taxes withheld.