Tuesday, 24 February 2015

Salary, Net Salary, Gross Salary, Cost to Company: Difference

Salary, Net Salary, Gross Salary, Cost to Company are they same or different. For most people it is plain confusion especially when one gets a new job. The excitement of getting first job is punctured on getting the first pay. It is usually less than what the fresher employee expected. Usually in the campus interviews company advertise their Cost to Company (or CTC) and people mistake their salary to be based on that (CTC/12). Educated but have No Financial Education is about the confusions of a new employee.  In this article we shall try to cover what makes the salary? What is the difference between Salary, Net Salary, Gross Salary, Cost to Company .

How people earn money?

The three broad ways in which people earn money are as follows:
  • Working for someone else or Employee ,
  • Working for themselves or Self Employed ,
  • and running a business.
When a person works for someone else or company, (s)he is then said to hold a job and is calledEmployee . The person or the company he or she works for is called Employer.  Money that is paid is called as Salary or Income or Wage.

Salary

As explained earlier Money that is received under Employer-Employee relationship is called as  Salary. If one is freelancer or are hired by an organization on contract basis, their income would not be treated as salary income.( In such case your income would be treated as income from business and profession).
Did you know that word salary has come from Latin salrium based on salrius which means pertaining to salt. The word appeared in 1350-1400. In those days, salt , regular ordinary table salt, was a prized and valuable commodity. It was money given to Roman soldiers to buy salt. The phrases  the salt of the earthor worth your salt refer to the high value of salt.
The salary consists of following parts.
Basic Salary: As the name suggests, this forms the very basis of salary. This is the core of salary, and many other components may be calculated based on this amount. It usually depends on one’s grade within the company’s salary structure.It  is a fixed part of one’s compensation structure.
Allowance: It is the amount received by an individual paid by his/her employer in addition to salary to meet some service requirements such as Dearness Allowance(DA), House Rent Allowance (HRA), Leave Travel Assistance(LTA) , Lunch Allowance, Conveyance Allowance , Children’s Education Allowance, City compensatory Allowance etc.  Allowance can be fully taxable, partly or non taxable. One can read Understanding the components of your salary and their taxation for more details.
Perquisite: Is any benefit or amenity granted or provided free of cost or at concessional rate such asRent free unfurnished house, Rent free furnished house, Motor car facility, Reimbursement of Gas, Electricity & Water, Club facility, Domestic Servant Facility, Interest Subsidy on Loan , Reimbursement of medical bills, Reimbursement of Hospital bills, Reimbursement of telephone bills, Benefits derived by employee stock option, and so on.
How are perquisites taxed?
Since these are non-cash components, they cannot be taxed directly. So the income tax laws attach a certain value to each of these components and charges a tax on them. The calculation of this value varies from category to category. Nevertheless, the thumb rule across all categories is that only those benefits that you use for personal purpose will be considered as perquisites.

Deductions: Two type of deduction are made from salary

  • Compulsory deduction such as Provident Fund, Income tax,Professional Tax (where applicable) .
  •  Optional deduction such as recovery for advance or loan if taken, voluntary contribution to P.F etc

Provident Fund Contribution

Provident fund contribution has two sides – the employer’s contribution and employee’s contributionThis is usually 12 per cent of the basic salary. However, this contribution is not paid out . It is directly deposited in Provident Fund(PF)  account and paid to employee when he retires or resigns.There is also employee’s contribution to PF. This amount  is deducted from his monthly salary and deposited in his PF account. For details on provident fund you can read Provident Fund (PF) and Voluntary Provident Fund (VPF)

Different types of salary

Gross Salary: is the amount of salary paid after adding all benefits and allowances and before deducting any tax.
Net Salary: is what is left of your salary after deductions have been made.
Take Home Salary: Is usually the Net Salary unless there are some personal deductions like loan or bond re-payments.
Cost to Company: Companies use the term “Cost to Company” to calculate the total cost to to employ . i.e. all the costs associated with an employment contract.  Major part of CTC comprises of compulsory deductibles. These include deductions for provident fund, medical insurance etc. They form a part of your compensation structure but you not get them as a part of in-hand salary. As such, although it increases your CTC, it does not increment your net salary.

Example

Let’s see  an example explaining the salary. An arbitrary salary break up is given below (Note: salary structure varies from one company to another):
Component of Salary(per annum or p.a)Amount
Basic Salary480,000
Dearness Allowance 48,000
House Rent Allowance 96,000
Conveyance Allowance 12,000
Entertainment Allowance 12,000
Overtime Allowance 12,000
Medical Reimbursements 15,000
Gross Salary6,75,000
Benefits vary from company to company. Example of benefits for the above employee are:
Medical insurance2000
Provident Fund (12% of Basic)57,600 (12% of 4,80,000)
Laptop50,000
Total Benefits109600
Cost to Company=Gross Salary + Benefits6,75,000 + 109600=7,84,600
Benefits would also vary from company to company. In some Laptop may not be provided. In some cost of cubicle would be added. For example: If rent of office space is Rs 200 per sq ft and then a cubicle of 6 feet by 8 feet (i.e48 square feet) would cost Rs. 9,600 per month, or Rs. 1,15,200 per year. Which can be added to your CTC. Please note CTC varies from company to company. One can read Cost To Company or CTC salary: Understanding and Calculation for more details.
How tax affect the various components of salary
Component of Salary(per annum or p.a)AmountTaxTaxable Amount
Basic Salary480,000Full amount is taxable480,000
Dearness Allowance 48,000Depends on company policy. Mostly fully taxable. 48,000
House Rent Allowance 96,000Applicable if living in a rented house. Minimum of three amounts (Note:Calculation shown below)52,800
Conveyance Allowance 12,000Conveyance allowance of Rs 9,600 per annum is exempted from tax. If salary component is more than 9,600, the remaining part is taxable.In this case:12,000-9600=2400 2,400
Entertainment Allowance 12,000Depends on company policy. Mostly fully taxable.12,000
Overtime Allowance 12,000Fully taxable12,000
Medical Reimbursements 15,000If substantiated with bills, are exempt to a limit of Rs 15,000 annually        0
Gross Salary6,75,000Gross Taxable Salary6,07,200
HRA Calculation
The minimum of the three amounts will be exempt from tax:
a. Actual HRA allowance in the salary package, that is Rs 96,000
OR
b. HRA received less 10 per cent of salary and DA, that is 43,200 (96,000 – 10% of 528,000)
OR
c. If you live in metropolitan (Delhi, Chennai, Bombay and Calcutta), 50 per cent of salary and DA However, if you live in any other city, it is 40 per cent of salary + DA. So, in this case it would be Rs 2,11,200 (40% of 528,000)
So HRA will be minimum of ( 96,000; 43,200; 2,11,200) which is 43,200 which will be exempted.
So the portion that will be taxed in this example is = 96,000 – 43,200 = 52,800
Tax
As Gross Taxable Salary  6,07,200 falls in the highest tax bracket. This tax amount includes education cess too. Assumption: Employee does not make any tax saving investment. Tax based on Assement Year 2011-2012 : 57,103. For tax estimator Calculator of InvestmentYogi  is very helpful.
Tax57,103
Employee PF contribution(12% of Basic)57,600
Professional Tax 2400
Total Deductions1,17,103
Net Salary = Gross Taxable Salary – Tax=6,07,200- 1,17,103=4,90,097
Net Monthly Salary=490097/12=40,841.41

Can Take Home salary be increased?

Yes it is possible and that too legally. An employee can plan taxes and increase the take home. If employee invests Rs 1, lakh in tax saving instruments, Section 80C such as PPF, Equity Linked Saving Scheme(ELSS) etc he can save taxes. So now employee in above example will be taxed on 6,07,200- 1,00,00 = 5,07,200.
Amount to be taxed5,07,200
Tax33,413
Employee PF contribution(12% of Basic)57,600
Professional Tax 2400
Total Deductions93,413
Net Salary = Gross Taxable Salary – Tax=6,07,200- 93,413=5,13,787
Net Monthly Salary=513787/12=42,815.58
Tax saving instruments under section 80C, 80G, House loan etc are beautifully depicted in thisinfographicOptimum Salary Structure – Maximum In Hand Salary Or Minimum Tax Liability  explains how restructuring the salary would increase the take home

PaySlip

A paycheck is a document/record issued by an employer to an employee which shows how much money an employee have earned and how much tax or insurance etc. has been deducted. .It will typically detail the gross income and all taxes and any other deductions such as retirement plan or pension contributions, insurances, garnishments, or charitable contributions taken out of the gross amount to arrive at the final net amount of the pay.  One can read  format of payslip or see a sample here.

Form 16

If you are salaried employee in an organization, then you get the salary after deducting tax by the employer. This process is called as Tax Deduction at Source (TDS). Company must issue a Form 16 which contains the details about the salary earned by that employee and how much tax deducted.  The Tax deducted is paid to government by the company. Form 16 is the proof of employee’s income and tax paid to the govt. It is issued under section 203 of Income Tax Act for Tax.  Tax payer has to use the Form 16 to file the Income Tax return every financial year.  One can read Understand Your Form 16
Disclaimer: While efforts have been made to ensure the accuracy of the information provided in the content, the web site or the author shall not be held responsible for any loss caused to any person whatsoever who accesses or uses or is supplied with the content (consisting of articles and information).Do you know the biggest employers in the world. Wal-Mart , a chain of department stores across the globe, employs 2.1 million employees worldwide. The Indian State Railways which has 1.42 million employees, is largest employer in India.Ref: Salary Income Tax – Heads of Income: Salary Understanding CTC and Your Salary BreakupTax implications of salary componentsAll you wanted to know about CTC
 basics of earning such as How people earn money by working for someone else , How people earn money by starting their own business, Factors on which person’s income depends ,  Story on when we value money,Profit and Loss, Salaries of some famous Indian personalities, Salaries of some famous International personalities, Best jobs in the world, Worst jobs in the world
Hope we are able to explain the difference between Salary, Net Salary, Gross Salary, Cost to Company.  Did you find information useful? If you find some information missing or incorrect please let us know.