Understanding Gross Income and Its Importance

Gross income is the amount of money you earn before any taxes or deductions are taken out. It is crucial because it determines how much someone can borrow for a home and is also used to calculate your federal and state income taxes. Your gross income can come from various sources such as a salary, hourly wages, tips, freelancing, and more.

How Gross Income Works

Gross income is the total amount of money you earn, typically in a paycheck, before any deductions are made. It plays a significant role in determining your borrowing capacity for a home and also influences your tax obligations. Your total gross income can include income from a W-2 job, freelancing, side jobs like driving for Uber or Lyft, consulting, tips, self-employment, and various other sources.

Examples of Gross Income

For instance, if you work at a clothing store and earn $15 per hour working 20 hours per week, your gross weekly income would be $300. If you are a marketing coordinator with a salary of $50,000 per year, that is your gross income. Additionally, if you have a side hustle making and selling pillows online, your total gross income is the combination of both your pillow business income and salary.

Gross Income vs. Net Income

Your gross income is your total income before any taxes or deductions are taken out, while your net income is what remains after taxes and deductions have been withheld. Employers deduct state and federal income taxes, Social Security taxes, Medicare taxes, and other benefits from your gross income to arrive at your net income. Net income is what you will use for budgeting and spending. If you are self-employed, you must set aside money for taxes yourself.

Adjusted Gross Income (AGI)

After calculating your gross income, you can adjust it by deducting certain business expenses, educator expenses, student loan interest, retirement account contributions, and more. This adjusted total is known as your adjusted gross income (AGI), which serves as the basis for your tax obligations. Lowering your AGI can help reduce your tax burden during tax season.

Frequently Asked Questions

How do you calculate gross income? Gross income is determined by multiplying your pay by the duration for which you work and adding any other sources of income. Adjusted Gross Income (AGI) is your total income after accounting for deductions like student loan interest and retirement contributions. A lower AGI can result in paying less income tax.