Net Salary

The salary which one receives after the deductions from PF contributions or Provident Fund contributions), Income tax and Professional tax is the net salary. It is also known as “taking home salary”. The amount the employee receives in his hand after all the reductions is called the Net Salary. The reductions are made from an initial amount called Gross salary.

Formula for Calculating Net Salary

Net salary = Gross salary – (Professional tax – Public provident fund contributions – Income tax)

Let’s take a look at the various components involved in the calculation of net salary.

• Gross Salary: Gross salary is known as the total salary which is given to the employee before the deduction. Gross salary is the composite of all the taxes and benefits offered by the employer while hiring the employees on the role which involves HRA, basic salary, Bonus, leave travel allowance, and other elementary things which are needed for continuing the job. From Gross Salary, the CTC, EPF (Employees Provident fund) and Gratuity is deducted.
• Gratuity: This is the amount paid to the employee at the time of his departure from the company. It can also be understood that this amount is paid to the employee as proof or acknowledgement that his services have been rendered.
• Professional Tax: This is the tax amount levied by the government towards all individuals who are having a current source of active earning income. Although the exact amount differs from state to state the maximum rate for the entire country the upper limit has been set at Rs. 2,500 annually.
• PPF Contributions: This is a savings scheme offered by the government that is tax free. The interest amount is reset every quarter and is paid by the government. The interest rate for the first quarter of the year 2020 -21 i.e 1st April to 31st June 2020 has been set at 7.1%.
• Income Tax: This slab is the sum of basic salary + special allowances + transport Allowances + HRA + any other allowances provided by the company. Aspects such as telephone bill reimbursement, travel allowances for personal reasons etc can be exempted from tax. If you live on rent and receive HRA then exemption can be claimed on HRA as well.

How is the net salary calculated?

Net salary = Gross salary – Income tax – EPF – professional tax

To calculate net salary, you need a proper understanding of the various components of gross salary. It is not the same as basic salary or Cost to Company (CTC). Net salary is the segment of Gross salary which is arrived at post deductions of the income tax, EPF and Professional tax. The gross salary is generally higher than the net salary but can also be equal to the net salary if the salary of the employee falls under the salary tax limit of the government. It is also known as the “salary contributions which are provided by the employer to the employee.”

Gross salary = Cost to Company + Employees Provident fund + Gratuity

The formula to calculate the gratuity is given below –

Gratuity = (Basic salary x dearness allowance) x 15/26 x Number of years of service

The gratuity which is subtracted on a yearly basis = 15/26 x basic salary of per month

Calculate the taxable income which is generated by subtracting professional tax, tax-saving instruments, leave travel allowance, medical insurance, tax-free allowance, and House Rent Allowance from the gross salary.

Taxable Income = Gross salary – PPF/EPF investment – Tax-free allowance – HRA – LTA – Medical  Insurance – tax savings instruments – Other deductions.

The House rent allowance can be done by the following three scenarios and the minimum value can be selected.

• The amount which the employer pays as House rent allowance.
• The rent amount which is paid is actually minus 10% of the basic salary.
• If the person is staying in the metro city, then 50% of the basic salary and if the person is staying in a non-metro city, then 40% of the basic salary.

Then calculate the income tax which must be paid for the financial year. Then the net salary can be calculated.  When the net salary is calculated, the professional tax must be deducted. 2500/- is the maximum amount which can be deducted as the professional tax, whereas on a monthly basis only Rs.200 can be deducted as the professional tax.

EPF (Employees Provident Fund) – It is the employee benefits programme which is under the ministry of labour, India. The employer provides 12% of the monthly salary of the employee in the Employees Provident Fund account. The amount can also be withdrawn by the employee in case of retirement, migration, early migration, or termination/sudden resignation.

Difference Between Net Salary And Gross Salary

Net salary is the salary which a person takes home after all the deductions whereas the gross salary is the figure which is derived after totalling all the allowance and benefits without deducting any tax.

Gross salary is inclusive of all types of benefits like a medical allowance, house rent allowance, conveyance, etc. The net salary is dependent on the gross salary. The net salary is excluded from fringe benefits.

“Take home salary” would be the only physical item to show proof of employment. This would be the case in the beginning stages of one's career but as you grow in the company or in experience value, you would begin to receive other forms of monetary value as well like shares of the company you work under. The net salary can also be equal to the gross salary if the latter lies below the tax slab of government.

How to increase net salary?

There are several ways using which you can increase the net salary. They are:

• Rs1.5 lakh investment can be made in the PPF (Public Provident Fund), home loan, LIC, Employees Provident Fund (EPF), NSC (National Savings Certificate), ELSS that provides the benefits of tax under sec 80C, 80CCD, 80 CCC of the income tax act 1961. When the income tax returns are filed, at that time all these benefits can be availed.
• If the employer is providing the food vouchers, then the employee can also opt for it.
• Invest a maximum of Rs. 20,000 in the Investment bonds and these bonds have the lock-in periods which are about 5 to 15 years. These provide the tax benefits under sec 80CCF of the income tax act.
• Deposit the money in your savings account. Besides the interest which is earned, you can also claim the tax benefit of around Rs.10,000 on it.
• If any person wants to buy a house, then one can take a home loan, which offers a tax benefit of around Rs.3.5 lakh.
• Medical insurance which is bought by any person for his/her parents up to the amount of Rs. 35,000 is exempted from tax.
• Investment can be done in Rajiv Gandhi Equity Savings Scheme. In the scheme, around 50% of the investment is exempted from the tax and one should not trade through the DEMAT account. The minimum salary should not exceed ten lakh.
• The net salary can be increased by taking advantage of leave travel allowance (LTA). If you travel with your family on holidays, then tax benefits can be claimed by the submission of the bills. Well, this is a taxable allowance if you do not claim it and travel.
• A lot of companies also provide the reimbursement of the mobile bills and telephone bills which have been incurred. If all these amounts are not claimed, then these will have to be paid by you.

Understanding the Different Components of your Salary

I. Cost to the company (CTC)

The Cost to the company (CTC) is the amount which is spent by the company on you indirectly or directly which includes provident fund, allowances, basic pay, and others. Well, this is the amount which the company provides you like the salary package when the job is provided to you. This amount is not the same which you take at home as the salary.

CTC = Gross salary + Gratuity + PF

The CTC is divided into various segments which helps the employee to decide the difference between the gross salary and Cost to the company.

• Dearness allowance – in this the cost of living is covered for adjusting the inflations increasing every year.
• Basic salary – this component of the salary remains constant and is the in-hand salary.
• Allowance – this is added to the basic salary of the employee which covers all the daily expenditures such as travel, stays, leave, and much more.
• Phone allowance – this will cover the phone bill of the employer every year.
• Fuel allowance – in this the expenditure of the vehicle is covered such as the cost of the fuel of the vehicle of the employee for the financial year.
• Leave Travel Allowance -   the exemption from the tax is provided to the employee at the annual cost of the travel in India like train and flight but it will not extend to the dining.

So, in simple terms, Cost to company = Earnings (dearness allowance, fuel allowance, medical allowance, house rent allowance, special allowance, conveyance allowance) + deductions

II. Allowances

Employers provide some monetary benefits for meeting the expenditures which are incurred by the employees for the requirements of the service called allowance. These are also provided in addition to the salary which is basic.

The common form of allowances provided is HRA (House rent allowance), DA (Dearness Allowance), LTA (leave travel allowance), and transport of conveyance allowance. The amount of all these allowances differs from company to company.

III. Basic salary

Basic salary is the fixed part of the compensation package and is the basic income. The amount of this salary varies according to the industry and designation but normally it is 40-60% of the CTC.

IV. Bonus

It is mostly rewarded for good performance. This is the compensation which is provided about the basic salary. The bonus amount can either be fixed or it can be variable and the time period in which the bonus gets due also varied from one company to the other company.

V. Taxes

The contribution which is made from your salary is towards the professional tax and income tax. The tax amount which is due on salary is deducted directly from your salary by the employer before it is credited in your account. The tax amount is calculated according to the rate of tax and slab applicable.  This is also known as TDS or tax deducted at source. Professional tax is also the type of tax which is deducted from your salary apart from the income tax.

VI. Insurance

A lot of companies provide the benefit of insurance but not all companies provide this benefit. Every month a small amount gets deducted from your salary and then it is invested in the health and life insurance. Every month, the premium gets deducted from your salary. This amount is included in the cost to the company but it gets deducted in the net salary.

VII. TDS

TDS is deducted by the employer based on the income tax slab rates. If your income is more than Rs.2, 50,000, then the employer will have to deduct the TDS on your income. You can disclose all your Income.

VIII. Provident Fund

This scheme is beneficial for you after retirement and it is the investment made by your employer and you. It is mainly calculated at 12% of the salary if it is Rs. 15000 and it gets transferred to your Provident Fund account. If it exceeds this amount, then the company may retain 12% of rupees fifteen thousand.

Once you recognize all these, it will be easier to negotiate and comprehend. The main aim of negotiating the salary is to gain the maximum monetary advantage for the service which is offered by you in a tax-efficient manner.

FAQs on Net Salary

End Note:

Net salary is commonly known as the take-home salary. It is the in-hand figure which the employee receives after TDS is deducted and various other deductions as per company policy.