Calculating gross and net pay accurately will make your employees happy and ensure that your payroll is always compliant in terms of federal regulations. Gross pay is the total amount of money earned by the employee before any deductions.
Net pay, on the other hand, is the amount of the money that the employee takes back home after all of the withholdings required by law or chosen by the worker are deducted from the gross pay. Having an understanding of how much of gross pay is withheld before it reaches an employee (20 to 35%) will help you avoid any financial errors and keep the business profitable.
The gap between gross and net pay is significant 20 to 35% of gross pay for most US employees.
The most common gap in employee understanding is assuming gross pay represents cash landing in their bank account, they are often shocked when their first paycheck reflects a 25% drop due to mandatory FICA tax withholdings and healthcare deductions.
Ankit Sarawagi, CPA, CA, MBA · LinkedInWhat is Gross Pay?
Gross pay and net pay are the two numbers that define every paycheck. Gross pay is what an employee earns before any deductions, the salary or hourly rate multiplied by hours worked, plus bonuses, overtime, and commissions.
Gross pay is total compensation before any deductions. Components include:
| Component | Description | Example |
|---|---|---|
| Base Salary / Hourly Wage | Fixed compensation, the salary or hourly rate as agreed in the employment contract | $60,000/year or $28.85/hour |
| Overtime Pay | For non-exempt (hourly) employees: 1.5x the regular rate for hours over 40/week under FLSA | 40 hours at $20 + 5 hours at $30 = $950 gross |
| Bonuses | Performance-based, signing, or annual bonus, taxed at the supplemental withholding rate (22% federal) | $5,000 annual bonus |
| Commissions | Sales-based variable compensation, taxed as regular wages or at supplemental rate | 10% of $50,000 in sales = $5,000 |
| Shift Differentials | Extra pay for night/weekend/holiday shifts, added to base pay | $1.50/hour premium for night shift |
What is Net Pay?
Net pay is what the employee actually receives after mandatory deductions (income tax withholding, FICA) and voluntary deductions (health insurance, 401k, garnishments) are subtracted. Net pay is gross pay minus all deductions. Deductions fall into three categories:
| Deduction Type | Examples | Notes |
|---|---|---|
| Mandatory, Federal Tax | Federal income tax (based on W-4 elections and tax bracket) | Varies by filing status, allowances, and supplemental income |
| Mandatory, FICA | Social Security: 6.2% up to $176,100 wage base (2025); Medicare: 1.45% on all wages (no cap) | Total employee FICA: 7.65% of gross pay up to the SS wage base |
| Mandatory, State/Local Tax | State income tax (varies by state, no state income tax in TX, FL, NV, WA, WY, SD, AK); local taxes where applicable | Must verify current state rates |
| Voluntary, Benefits | Employee share of health/dental/vision insurance premiums; employee 401k contribution; HSA/FSA contributions | Pre-tax deductions reduce taxable income; post-tax deductions (Roth 401k) do not |
| Mandatory, Garnishments | Child support, student loan garnishments, IRS tax levies, ordered by court or IRS | Cannot be refused; employer must comply and remit to the specified authority |
How to Calculate Gross Pay and Net Pay, Worked Example
Example: Salaried employee, $60,000/year, paid bi-weekly, single filer, standard W-4.
| Calculation Step | Amount |
|---|---|
| Gross pay per pay period | $60,000 / 26 = $2,307.69 |
| Federal income tax (estimated, single, standard deduction) | ~$230 (based on withholding tables, actual varies by W-4 elections) |
| Social Security (6.2%) | $2,307.69 x 6.2% = $143.08 |
| Medicare (1.45%) | $2,307.69 x 1.45% = $33.46 |
| Total FICA deduction | $176.54 (7.65% of gross) |
| Health insurance premium (employee share, pre-tax) | $150.00 (example) |
| 401k contribution (6% pre-tax) | $138.46 |
| Total deductions | ~$694 |
| Net pay (take-home) | ~$1,614 |
Key Differences: Gross Pay vs Net Pay
| Dimension | Gross Pay | Net Pay |
|---|---|---|
| Definition | Total compensation before deductions | Take-home pay after all deductions |
| What it reflects | Full cost of the employee to the employer (plus employer-side taxes on top) | Actual cash the employee receives |
| Tax treatment | Taxable income base for withholding calculations | Post-tax; not subject to further withholding |
| Used for… | Loan applications, income verification, benefit calculations, employment contracts | Budgeting personal expenses; actual bank deposit |
| Typical gap | , | Gross minus net = 20 to 35% of gross for most US employees (varies by state, benefits, 401k elections) |
A growing tech client came to Profitjets after budgeting their annual expansion solely on total gross salary numbers. They had completely overlooked the additional 7.65% employer-side FICA contribution and state unemployment taxes, leaving them with a $38,000 budget shortfall across 15 new hires.
We audited their financial plan, restructured their payroll forecast to reflect true employer-side tax burdens, and established an automated payroll ledger system that prevents cash flow surprises.
What Sits Between the Two
The gap between what someone is paid and what reaches their account is made up of a short list of items, and being able to name them makes every payroll conversation easier.
- Federal income tax withheld, based on what the employee declared
- Social security and Medicare contributions, at set rates
- State and, in some places, local income tax withheld
- Pre-tax deductions such as retirement contributions and certain benefits, which come off before some taxes are calculated
- Post-tax deductions such as certain insurance premiums, union dues or a garnishment order
The order matters as much as the list, because pre-tax items reduce the base on which the taxes are calculated. That is why two employees on identical gross pay can take home noticeably different amounts.
Explaining a Payslip to an Employee
Most payslip queries are not disputes, they are a request for an explanation, and answering the first one well usually prevents the next five.
The questions that recur are why take-home changed when gross did not, why the annual statement boxes do not agree with each other, why a bonus appeared to be taxed at a higher rate, and why a deduction started or stopped.
Each has a straightforward answer. Take-home changes when a rate, a threshold, a benefit election or a year-to-date limit changes. The statement boxes differ because different taxes apply to different bases. A bonus often has tax withheld under a different method rather than being taxed more heavily, which usually corrects itself at filing. Being ready with those answers is part of running payroll rather than an interruption to it.
Employer Cost Is Higher Than Gross Pay
Both figures on a payslip understate what an employee costs the business, which matters when budgeting a hire or pricing work.
Above gross pay sit the employer's share of employment taxes, unemployment contributions at both federal and state level, workers' compensation insurance, and the employer's cost of any benefits offered. Depending on the state and the benefits, the total can be meaningfully above the salary figure that was negotiated.
For pricing work, that fully loaded figure is the one to use rather than the salary. A service business quoting on the basis of bare wage cost is systematically underpricing, and the gap only shows up at the end of the year in a margin nobody can explain.
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FAQs
What percentage of gross pay is typically taken in deductions?
The amount varies based on income, tax filing status, location, and benefits. Federal income tax, FICA, and state or local taxes may account for a significant portion of gross pay, while voluntary deductions such as health insurance and 401(k) contributions can further reduce take-home pay.
Does overtime affect gross pay calculations?
Yes. Overtime compensation is included in gross pay. Under the FLSA, eligible nonexempt employees generally must receive at least 1.5 times their regular rate for hours worked over 40 in a workweek. Overtime earnings are generally subject to applicable payroll taxes and withholding.
What is the difference between gross pay and net pay?
Gross pay is the total amount an employee earns before deductions, including regular wages, overtime, bonuses, and certain taxable benefits. Net pay is the amount the employee receives after taxes and other applicable deductions are withheld.
What deductions are taken from gross pay?
Common mandatory deductions include federal income tax, Social Security and Medicare taxes, and applicable state or local taxes. Employees may also have voluntary deductions for health insurance, retirement contributions, flexible spending accounts, or other benefits.
How can employers calculate gross pay accurately?
Employers should account for regular hours, overtime, bonuses, commissions, paid leave, and other applicable compensation before applying the appropriate payroll deductions and withholdings. Payroll software or professional payroll services can help automate these calculations and reduce errors.
Written by
Ankit Sarawagi, CPA, CA, MBA
Ankit leads the finance team at Profitjets, where he has worked with 500+ businesses across the US on bookkeeping, tax and CFO-level strategy. He writes about the habits that keep small business books accurate all year. Connect on LinkedIn
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