Formula to Calculate Disposable Income
Disposable income is the amount of money available after accounting for income taxes, either spending or saving.
Disposable Income formula = PI – PIT
where PI is personal income and PIT is the personal income tax.
The disposable income equation is quite simple to use and calculate. First, we must determine the individual’s gross income before any expenses and then deduct the same gross income by the applicable tax rate. As the taxes cannot be avoided subsequently, it’s a must to deduct the income taxes to arrive at disposable income figures. Disposable income can be used for paying expenses, bills, and leisure activities.
Table of contents
- Disposable income is the money left over for either saving or spending after deducting income taxes.
- It differs from personal disposable income, the entire amount an individual earns from investments, salaries, dividends, bonuses, pensions, social benefits, and other endeavors over a specific period.
- The following is how the formula for disposable income is represented mathematically: Personal income less personal income taxes equals disposable income. Based on the existing revenue, spending decisions are made.
Disposable Income Formula = Personal Income – Personal Income Taxes.
Disposable Income Calculations
Wilson and Wilson’s family earn around $60,000 monthly, and they pay $5,000 as monthly federal tax. Therefore, you must calculate the Disposable Personal Income for the entire year based on the above information.
Use below given data for the calculation of disposable income
- Gross Salary: $60,000
- Federal Taxes: $5,000
First, we need to calculate the yearly gross salary and federal taxes.
Therefore, the calculation of disposable income will be as follows,
= 720,000 – 60,000
Disposable Income will be –
- Disposable Income= 660,000
Hence, the disposable income of Wilson and the Wilson family is $660,000.
Financial Modeling & Valuation Course (25+ Hours of Video Tutorials)
Disposable Income (DPI) Explained in Video
Anjali is working full-time with Morgan Chase Inc. as a senior analyst in a supporting role. She recently learned about disposable income concepts in a seminar, and she was curious to calculate her disposable income from an engineering background. So she opened up her salary slip, and below are the details:
She is paying 35% federal taxes after eligible deductions. Further, she is eligible for three times a year shift allowance. Her provident fund and professional taxes are deducted monthly. Therefore, you are required to calculate the yearly disposable income for Anjali.
In this example, we will first calculate the gross income after deducting the provident fund and professional taxes and finally deducting federal income taxesFederal Income TaxesFederal income tax is the tax system in the United States and is levied and governed by Internal Revenue Services (IRS). It helps determine the tax charged on the income earned by individuals, corporations, and various other legal entities..
Therefore, the calculation of disposable income will be as follows,
= 96,100 – 33,635
Personal Disposable Income will be –
- Disposable Income = 62,465
Hence, the disposable income for Anjali would be 62,465.
Mr. X was working in an MNC where he was earning a gross salary of $2,000,000 per annum, and he was in a tax bracket for 30% on income above $1,000,000 and 10% on income below $1,000,000. He was recently asked to move to the US as part of the job, and there he was eligible for a $27,000 per annum basis. He was supposed to return in 5 years back to his home country.
However, he was given a decision whether to opt for this opportunity or not. He learned that he would be paying taxes in the US flat 27% without any deductions. Moreover, the exchange rate prevailing was 1 USD = 70 units of home currency. Therefore, you are required to assess whether he should opt for the US or let it go based on the disposable income concept.
In this example, we need to compare the disposable income of the home country with the US.
- Gross salary per annum of the home country: 2,000,000.00
- Income tax rate up to 10 lacs: 10%
- Income tax rate above ten lacs:30%
- Gross salary per annum of USA: 27,000.00
- Federal income tax rate: 27%
Calculation of disposable income of the home country
Disposable Income of Home Country will be –
Calculation of Personal Disposable Income in the USA
Disposable Income in USA will be –
Therefore, using the exchange rate given in the problem, 70, the disposable amount in-home units will be 19,710 x 70 equals 1,379,700.
Since this is less than their current home country’s disposable income, he can consider not opting for the USA job.
Relevance and Uses
Disposable income can be used in deriving several economic indicatorsEconomic IndicatorsSome economic indicators are GDP, Exchange Rate Stability, Risk Premiums, Crude Oil Prices etc. and statistical measures. For example, economists can use disposable income as a beginning point to calculate metrics like personal savings rates, marginal propensity to save (MPS), discretionary income, and MPC formulaMPC FormulaMarginal Propensity to Consume refers to the increase in consumption owing to the increment in disposable income. It is determined as the ratio of change in consumption (ΔC) to change in disposable income (ΔI). . Disposable income is the income left after taxes.
Frequently Asked Questions (FAQs)
A key metric for gauging the economy’s health is disposable income. It reveals the financial health of families and how much cash they can inject into the economy through consumer purchasing.
When households’ disposable income rises, they have more money to save or spend, eventually increasing consumption. On the other hand, autonomous consumption is defined as consumption that continues even without any disposable money.
If taxes are reduced, consumers may have more money to spend on goods and services. Conversely, customers may spend less if taxes rise since they will have less money.
This has been a guide to the disposable income formula. Here we discuss the formula for calculating personal disposable income, practical examples, and a downloadable excel template. You can learn more about financing from the following articles –
- Marginal Product Labor FormulaMarginal Product Labor FormulaThe marginal product of labour formula calculates the change in the level of the company's output when there is the addition of a new employee. The marginal product of labour is calculated by dividing the total product value by the difference in the labour.
- Break-Even SalesBreak-Even SalesBreak-Even Sales are sales where a company's total revenue equals its total expenses, resulting in a zero profit. It is calculated by dividing the company's total fixed expenses by the contribution margin percentage.
- Calculate Marginal Cost of CapitalCalculate Marginal Cost Of CapitalMarginal Cost of Capital is the total combined cost of debt, equity, and preference taking into account their respective weights in the total capital of the company. It denotes the cost of raising any additional capital and decision making options.
- Formula of Marginal RevenueFormula Of Marginal RevenueThe marginal revenue formula computes the change in total revenue with more goods and units sold." The value denotes the marginal revenue gained. Marginal revenue = Change in total revenue/Change in quantity sold.