What Are Net Earnings? (With Steps For Calculation)

By Indeed Editorial Team

Published 16 September 2022

The Indeed Editorial Team comprises a diverse and talented team of writers, researchers and subject matter experts equipped with Indeed's data and insights to deliver useful tips to help guide your career journey.

Finding the value of a company or individual after taxes and other expenses can help you plan for the future. One way to find this value is to find net earnings. Understanding what this is and how to calculate it can increase your ability to account for changes and increase your knowledge of economics. In this article, we discuss net earnings, describe expenses, examine why they are important, list steps you can use to calculate it and provide examples for you to review.

What Are Net Earnings?

Net earnings are the total amount of money an organisation or individual earns after deducting all costs, allowances and taxes. You can also call this net income. The most common way professionals consider net income is through personal income, as it is the value you bring home from your salary or wages after you pay taxes and other costs. For businesses, this is the total value they accumulate after they pay their professionals' salaries and wages, cost of raw goods, overhead costs and taxes.

Net income is especially important for businesses because investors use this value to determine whether the money an organisation makes exceeds the amount of money it spends on expenses. Organisations that consistently spend more money on expenses than they earn are at risk of failing and being shut down. Organisations that make the same amount as they pay in expenses are risky for investors because a change in the market can change whether that organisation makes or loses money. The organisations that consistently make more money than they spend on expenses are often attractive to investors.

Related: What Is Annual Income? And How To Calculate Your Income

What Are Expenses?

Expenses are what organisations and individuals pay to remain compliant and operational within an economy. Below are descriptions of expenses you may experience:

  • Income taxes: This is the amount of money you may pay to the government that comes from your paycheck. This is often a percentage of your earnings.

  • Manufacturing expenses: This is the cost of production and materials for creating a product or service. Wages, the cost or raw materials and the rent cost of a production facility are all included in this type of expense.

  • Administrative expenses: This is the cost of processes unrelated to the direct production of goods and services. For example, the cost of materials for record keeping is an administrative expense.

  • Interest: This is the amount of money an organisation or individual pays on a loan or other debt. For example, an organisation may pay a 5% interest rate on a ₹1,000,000 loan each year.

  • Depreciation: This is the value that assets such as machinery, equipment and other goods necessary for production lose during a specific measurement period. For example, a steel press may lose 12% of its initial value once an organisation uses it.

  • Additional expenses: These are other expenses that occur that are not part of production for a business. For an individual, this can include the cost of food, the cost of petrol and other costs that are necessary for living.

Related: Format Of A Cash Flow Statement (With Methods And Examples)

Why Are They Important?

There are many reasons why understanding a business's net income is important:

  • Determines a business's financial health: Positive or high net income means a company is profitable or gaining more money than it is spending. This is an indicator of substantial financial health, which is incredibly important when other entities review the company's economic history or data.

  • Calculates easily: The net income formula is fairly simple, meaning anyone can calculate it to learn about the company's income. As long as the information and mathematical computations are accurate, you can quickly gain the information you need.

  • Supports problem-solving: If your net income does not exceed your expenses, that is an indicator some changes occur. You can use the information from your net income analysis to identify what is causing the issue and implement strategies to improve your overall economic growth.

  • Helps with goal setting: To improve your net profits, consider setting goals that might help you achieve that. By knowing how to calculate and understand your net income, you can implement meaningful SMART goals; goals that are specific, measurable, attainable, relevant and timely.

  • Reassures investors: A positive net growth shows that a company is meeting the current standards to make a considerable profit. Having a good net income shows current and potential investors that a business is reliable and likely to provide favourable future returns on investment.

  • Helps you predict expected taxes: Typically, the more money a business makes, the more taxes you pay, so knowing your income can help you better prepare for your tax obligations.

  • Helps provide data insights: There are several data insights your net income can provide, such as your current economic standing and potential process issues. Knowing your income can help you perform a thorough analysis and gather critical operational information.

  • Helps you calculate your return on equity (ROE): Businesses that have a positive net income can gain some benefit from equity stakeholders. These individuals use your net income to calculate the ROE which shows a company's rate of return and whether it meets the standards of potential investors.

  • Helps you secure bank loans: When you are looking for a loan to help or fund a business, banks review your net profits. Knowing your current economic condition can help you implement methods for any improvements that may improve your chances of loan application approval.

  • Helps you understand your industry competitiveness: Knowing your net income can help you become more aware of your standing in the industry. Improving your earnings may enhance your competitive advantage, helping you to outperform your industry rivals.

Related: What Is A Profit And Loss Statement? (Formulas And Examples)

4 Steps For Calculating Net Income

Here are four steps to help you determine your net income:

1. Calculate your gross revenue

Gross revenue is the total amount of money you earn during an accounting period before you account for expenses and taxes. For example, an organisation that sells technology products may make ₹5,000,000 each month from its sales and other means of income. Often, you can find this value in a company's ledger or accounting records. For individuals, this is the total amount of money you make in a paycheck before taxes and withholdings.

Related: Revenue Accounts: With Definition, Types And Examples

2. Find your expenses

After you calculate your gross revenue, you can calculate the expenses you pay. For a business, this includes all operational and administrative expenses and additional expenses, depending on the period. For an individual, this includes all rent, utilities and additional expenses you pay to live. This cost often changes in different accounting periods, so ensure you check records such as accounting ledgers and paychecks to determine the cost of your expenses.

Related: Asset Vs. Expense: Differences, Types And Best Practices

3. Factor in your taxes

The final factor of finding your net income is to calculate your taxes. For a business, taxes can occur on many parts of the production and operation processes. For an individual, you may experience sales taxes and income taxes. Once you collect this value and all the other values, you can find your net income.

Related: What Is Revenue? Definition, Types, Examples And More

4. Perform the net income formula

The net income formula can help you calculate your total income and other values more easily. To find your net income, you can use the formula below:

Net income = Total revenue - Expenses - Taxes

For example, you may have a total revenue of ₹5,000,000, expenses equal to ₹2,500,000 and taxes equal to ₹1,000,000. Using these values, you can find a total income of ₹1,500,000.

Examples Of Net Income

Below are two examples of calculating net income:

Business example

Below is an example of an organisation that wants to find its net income:

TECHSMYTH is a company that produces computer software for digital artists and animators. It determines it wants to find its net income for a one-month accounting period. During that period, it had a total revenue of ₹6,000,000, total expenses of ₹2,000,000 and taxes equal to ₹500,000. Using these values, the company accountant calculates TECHSMYTH's net income as ₹3,500,000.

Individual example

Below is an example of an individual that wants to understand how much disposable income they have:

Devi is a digital artist who wants to learn what their net income is, so they create a budget for other expenses, such as entertainment. First, they determine their monthly income is ₹40,000. Then, they find their total expenses, which is ₹10,000. Finally, they calculate their taxes, which is ₹3,331. Using the net income formula, Devi calculates their net income as ₹26,669. More comfortable with their income, Devi spends more on entertainment and hosting their friends.

Please note that none of the companies, institutions or organisations mentioned in this article are associated with Indeed.

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