The first step in managing your money is figuring out where it comes from. You can only make a budget once you have a firm grasp on your monthly income and have some confidence in your ability to predict it.
Difference between gross and net income: "gross income" refers to earnings before any deductions or taxes are taken out. "Take-home pay" refers to the portion of your paycheck that makes it into your bank account.
The vast majority of working adults are compensated through hourly wages and salaries. For the time being, let's pretend you're not an independent contractor whose earnings would be structured differently than those of a typical employee.
Need a free worksheet for budgeting?
You can compare your spending to the recommended amount by using the Nerds' 50/30/20 budgeting worksheet.
Determining gross revenue is a breeze. Your weekly gross revenue as an hourly wage earner is just your total number of hours worked times your hourly wage. You are working 40 hours per week at the federal minimum wage of $7.25 yields a gross weekly income of $290. That's about $1,160 in gross income per month.
Salaried workers can calculate their monthly gross income by dividing their annual compensation by 12. Your gross monthly income would be $3,000 if you earned $36,000 annually.
Paycheck to paycheck, these amounts could fluctuate depending on how often you get paid and when in the month your payday falls. Verify that your expected pay or wages add up to the total amount you receive. Pay stubs, the receipt accompanying a paycheck, should contain all the information we've discussed.
Regarding the practice of concealment
Withholding is a percentage of your salary automatically deducted periodically to cover your estimated annual tax liability. As a result, you won't have to worry about receiving a "liability" (i.e., a huge charge) from the IRS when tax time rolls around.
Instead, the government has already compensated for most of your expected tax liability. When you file your tax return each year, the government will check to see if the amount of money they have withheld from your paycheck is the same amount you owe. A tax refund is issued if the amount of taxes you owe is less than the amount deducted from your paycheck. The IRS must be paid if your tax liability exceeds the amount withheld from your paycheck.
A W-4 form is required whenever a worker changes jobs. To ensure that your tax withholding estimate is as close to your total tax liability as feasible, please fill out this form as accurately as possible. Here you can use the IRS's withholding calculator.
Depending on where you live, you may also have state or local income tax taken from your paycheck. Deductions from your income will include Social Security and Medicare taxes, employer-paid health insurance premiums, and 401(k) or other retirement plan contributions. Your pay stub may also include details about any bonus, holiday, or sick pay you've earned.
A question concerning freelancers
According to the Internal Revenue Service (IRS), certain workers are classified as independent contractors rather than employees. When starting a new work, an independent contractor will not be required to complete a W-4 form but will be issued 1099 at the end of the year. If you're self-employed because you do contract work, you're on the hook for your income taxes and deductions. Because of this, your Social Security tax will be higher than usual, and no taxes will be withheld from your paychecks this year (employers usually pay a portion of it.
Since no tax is withheld, you must file a tax return annually and make estimated tax payments every three months. Your paychecks are your gross income, and it is up to you to determine how much you can keep. Invest your money wisely and avoid using it before you've paid your taxes.
From cash flow to allocation
You can now understand why your take-home pay is less than your gross compensation. To begin budgeting, you'll need to know how much money you'll be bringing home after taxes, but you'll also need to add back in any mandatory deductions, such as those for retirement or health insurance. You should be able to separate these payments from your overall take-home pay, as they are a part of your budget.
