What Is After-Tax Income?
Let me explain after-tax income directly: it's the net income you have left after deducting all federal, state, and withholding taxes. You might also hear it called income after taxes or the net of tax amount—this is essentially the disposable income that you, as a consumer, or your firm has available to spend.
Key Takeaways
- After-tax income is gross income minus deductions of federal, state, and withholding taxes.
- After-tax income is the disposable income that a consumer or firm has available to spend.
- Computing after-tax income for businesses is relatively the same as for individuals, but instead of determining gross income, companies begin by defining total revenues.
Understanding After-Tax Income
If you're an individual tax filer, you probably use some version of the IRS Form 1040 to figure out your taxable income, the income tax you owe, and ultimately your after-tax income. Here's how it works: subtract your deductions from your gross income, and that gives you your taxable income—the amount on which taxes are due. Your after-tax income is simply what's left after subtracting those taxes from your gross income.
Take this example to see it in action: suppose Abi Sample earns $30,000 and claims $10,000 in deductions, leaving a taxable income of $20,000. With a federal income tax rate of 15%, the tax due is $3,000, so the after-tax income comes to $27,000—that's $30,000 minus $3,000.
You can also factor in state and local taxes when calculating after-tax income. In that case, exclude sales tax and property taxes from gross income as well. Building on the example, if Abi pays $1,000 in state income tax and $500 in municipal income tax, the after-tax income drops to $25,500—that's $27,000 minus $1,500.
Important Note on Cash Flow Analysis
When you're analyzing or forecasting personal or corporate cash flows, make sure to use an estimated after-tax net cash projection. This is a more accurate measure than pretax income or gross income because it reflects what you actually have available for consumption after taxes.
Calculating After-Tax Income for Businesses
For businesses, calculating after-tax income follows a similar process to individuals, but you start with total revenues instead of gross income. From there, subtract business expenses as they're listed on the income statement to get the firm's income. Then, subtract any other relevant deductions to arrive at taxable income.
The taxable income is what's left after those subtractions, and that's where taxes apply. Your after-tax income for the business is the difference between the firm's income and the taxes due.
After-Tax and Pretax Retirement Contributions
You often see the terms after-tax and pretax in relation to retirement contributions or other benefits. For instance, if you make pretax contributions to a retirement account, those are subtracted from your gross pay first. Then, your employer calculates payroll taxes on the remaining amount.
Medicare contributions and Social Security payments are based on that adjusted amount after the deductions. But if you opt for after-tax contributions, your employer first applies taxes to your full gross pay, and only then subtracts the retirement contributions from that taxed amount.
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