Difference Between Gross Income and Net Income
The key difference between gross income and net income is that gross income refers to the income which is left over to the company after deducting the cost of the goods sold from the revenue earned by the company, whereas, Net income refers to the amount left as the earning in the organization after deducting all the expenses in the organization including other expenses such as dividends etc from the gross income.
If you’re a new investor or you’re just trying to financial accountingFinancial AccountingFinancial accounting refers to bookkeeping, i.e., identifying, classifying, summarizing and recording all the financial transactions in the Income Statement, Balance Sheet and Cash Flow Statement. It even includes the analysis of these financial statements., you must know the difference between gross and net income.
In simple terms, we can calculate gross incomeCalculate Gross IncomeGross income is calculated as total income earned before any deductions and taxes. Thus, it includes income from all sources, including rent, dividends, interest. In contrast, for business, it is estimated as the revenue earned from goods and services minus the cost of goods sold. by deducting the cost of goods sold from net sales. Whereas, we can compute net income by deducting all types of operational, general, administrative expenses (plus adding different sources of income).
To understand the difference between them, we need to look at the income statement of a company.
- In the income statementIn The Income StatementThe income statement is one of the company's financial reports that summarizes all of the company's revenues and expenses over time in order to determine the company's profit or loss and measure its business activity over time based on user requirements., the first item is gross sales. Gross sales are the product of price per unit of product sold and the quantity of the product sold. From gross sales, we deduct the sales discount or the sales returns (if any). And then we get net sales.
- From net sales, we deduct the cost of goods soldCost Of Goods SoldThe cost of goods sold (COGS) is the cumulative total of direct costs incurred for the goods or services sold, including direct expenses like raw material, direct labour cost and other direct costs. However, it excludes all the indirect expenses incurred by the company.. And here, we get the figure of gross income or gross profit. Gross profit is an important measure; because gross profit tells us a figure that’s closer to the profit from operations.
- If we deduct operating expensesOperating ExpensesOperating expense (OPEX) is the cost incurred in the normal course of business and does not include expenses directly related to product manufacturing or service delivery. Therefore, they are readily available in the income statement and help to determine the net profit. from the gross income, we get the operating income. We also call it EBIT (Earnings before interest & taxes). From EBIT, then we deduct the interest expenses and taxes to arrive at net income. Net income is a culmination of profits from operations and profits from other sources (for a few businesses, there’re other sources of income as well other than the income from operations).
Gross Income vs Net Income Infographics
- The main difference is in the scope. Gross income only considers sales and cost of goods sold. On the other hand, net income deals with operational & non-operational expenses & income.
- To find out the gross profitGross ProfitGross Profit shows the earnings of the business entity from its core business activity i.e. the profit of the company that is arrived after deducting all the direct expenses like raw material cost, labor cost, etc. from the direct income generated from the sale of its goods and services., we need to deduct the cost of goods sold from the sales (net sales). To find out the net profit, we need to deduct operational expenses, interest expenses, taxes from the gross income, and add income from other sources (if any).
- Gross income helps us find out the net income. Net income, on the other hand, is completely dependent on gross income.
- To understand both incomes, one must know the income statement thoroughly. Gross income is the fourth item on the income statement (after gross sales, sales return/discount, and cost of goods sold). Net income is the last item on the income statement. In a few cases, after net income, the company calculates the earnings per share (EPS).
Gross vs. Net Income Comparative Table
|Basis for comparison||Gross Income||Net Income|
|Meaning||This is the immediate income a company makes by deducting the cost of goods sold from the net sales.||This is the culmination of both incomes from operations & income from other sources.|
|Computation||It can be calculated by deducting the cost of goods sold from the net sales (net sales = gross sales – sales return/discount)||It can be calculated by deducting the operational expenses, interest expenses, taxes from gross income, and adding any income from other sources to the same.|
|Why is it important?||Gross Income is important because it helps us understand how much a company earns after removing the cost of goods sold from the sales. It doesn’t deduct any other expensesExpensesOther expenses comprise all the non-operating costs incurred for the supporting business operations. Such payments like rent, insurance and taxes have no direct connection with the mainstream business activities. or adds any other income.||It is important because it gives us a big picture of what exactly a firm can use for reinvestment or payment of dividend to the shareholdersDividend To The ShareholdersA shareholder is an individual or an institution that owns one or more shares of stock in a public or a private corporation and, therefore, are the legal owners of the company. The ownership percentage depends on the number of shares they hold against the company's total shares..|
|Dependency||Gross Income isn’t dependent on the net income.||Net Income is dependent on gross income. Until you know the gross income, you can’t compute the net income of a company.|
|Amount||It is always more than the net income.||It is always less than gross income.|
|Expenses deducted||Cost of goods sold||Operational cost, non-operational cost;|
While we find out the difference between them, what’s most important is understanding the big picture of a company.
- They are parts of the whole income statement. But if you want to invest in a company or want to comprehend the financial health of a company, you need to learn to see every minute detail and consider every expense that is being incurred.
- Using gross income, we can calculate a ratio called gross income/gross profit marginGross Profit MarginGross Profit Margin is the ratio that calculates the profitability of the company after deducting the direct cost of goods sold from the revenue and is expressed as a percentage of sales. It doesn’t include any other expenses into account except the cost of goods sold., where we divide gross income by the total sales.
- On the other hand, using net income, we can calculate a ratio called net income/net profit marginNet Profit MarginNet profit margin is the percentage of net income a company derives from its net sales. It indicates the organization's overall profitability after incurring its interest and tax expenses. where we divide net income by the total sales.
Gross vs. Net Income Video
This article has been a guide to Gross Income vs. Net Income. Here we discuss the top differences between them along with infographics and comparative table. You may also have a look at the following accountings articles for gaining further knowledge –