Why Is Your Net Paycheck Smaller Than Your Gross Wages?

A Step-by-Step Guide to Understanding and Calculating Your Net Pay

If your paycheck seems smaller than expected, you're not alone. The difference between your gross pay (total earnings) and your net pay (take-home pay) comes down to a combination of taxes and deductions—some required, some optional.

Let’s walk through a step-by-step breakdown to understand exactly where your money goes and how to calculate your net pay.

✅ Step 1: Start with Your Gross Pay

Gross pay is the total amount you earn before anything is taken out.

Hourly employees: Hourly wage × hours worked

• Example: $20/hour × 80 hours = $1,600 gross pay

  
  

Salaried employees: Annual salary ÷ number of pay periods

• Example: $60,000/year ÷ 24 = $2,500 per paycheck

  
  

Also include:

• Overtime

• Bonuses

• Commissions

• Tips (if applicable)

  
  

✅ Step 2: Subtract Pre-Tax Deductions

These deductions are taken before taxes are applied, lowering your taxable income.

Common pre-tax deductions include:

• Health, dental, and vision insurance premiums

• Health Savings Accounts (HSA) or Flexible Spending Accounts (FSA)

• Dependent Care FSA contributions (for childcare, eldercare, etc.)

• Traditional 401(k) or 403(b) retirement plan contributions

• Commuter/transit benefits

  
  

⚠️ Note About FICA (Social Security & Medicare):

Most pre-tax deductions are also exempt from FICA taxes.

However, 401(k) contributions are not exempt from FICA—you still pay Social Security and Medicare taxes on that amount.

Example: Gross Pay = $2,500

Pre-Tax Deductions:

• Health insurance: $150 (FICA & income tax exempt)

• Dependent Care FSA: $100 (FICA & income tax exempt)

• 401(k) (5%): $125 (income tax exempt, but not FICA)

  
  

Taxable income for income tax = $2,125

Taxable income for FICA = $2,250 (401(k) amount is still included)

✅ Step 3: Subtract Taxes

Once you know your taxable income, apply the following:

🏛️ Federal Income Tax

• Based on IRS tax brackets and W-4 information

  
  

🏛️ State & Local Taxes

• Vary by state and locality

  
  

🧾 FICA Taxes

• Social Security: 6.2% of FICA-taxable wages (up to annual cap)

• Medicare: 1.45% of all wages (additional 0.9% for high earners)

📌 Social Security Wage Cap: What You Should Know

• Social Security tax is only applied to a limited amount of your annual earnings. This is known as the wage base limit.

• The Social Security wage cap is indexed annually for inflation.

• Once your year-to-date earnings exceed this cap, Social Security tax (6.2%) stops being withheld—but Medicare continues.

Example (continued): FICA Taxable Income = $2,250

• Social Security: 6.2% = $139.50

• Medicare: 1.45% = $32.63

• Total FICA = $172.13

  
  

✅ Step 4: Subtract Post-Tax Deductions

These are taken after taxes are calculated, and include:

• Roth 401(k) contributions

• Union dues

• Wage garnishments (e.g., child support)

• Charitable contributions

• Optional post-tax insurance premiums

Example: Post-Tax Deductions:

• Roth 401(k): $50

• Union dues: $20

• Total = $70

  
  

✅ Step 5: Calculate Net Pay

Now subtract all deductions and taxes from your gross pay:

Final Example: Gross Pay = $2,500

• Pre-Tax Deductions = $375

• Federal + State Taxes = $260

• FICA = $172.13

• Post-Tax Deductions = $70

  
  

✅ Net Pay = $2,500 - $375 - $260 - $172.13 - $70 = $1,622.87

📌 Summary Table: What Affects Your Net Pay?

Deduction Type	Lowers Income Tax?	Lowers FICA Tax?	Example
Health Insurance Premiums	✅ Yes	✅ Yes	Medical, dental, vision plans
Dependent Care FSA	✅ Yes	✅ Yes	Childcare or eldercare expenses
HSA / Health FSA	✅ Yes	✅ Yes	Healthcare accounts
Traditional 401(k)	✅ Yes	❌ No	Retirement contributions
Roth 401(k)	❌ No	❌ No	Post-tax retirement contributions
Transit/Commuter Benefits	✅ Yes	✅ Yes	Parking, public transport
Union Dues / Garnishments	❌ No	❌ No	Court-ordered or voluntary

🧠 Final Thoughts

Your net pay is the result of several layers of calculations—some based on your benefits choices, others required by law. Pre-tax deductions like Dependent Care FSAs can significantly lower your taxable income, which might reduce both your income tax and FICA liability.

💡 Tip: Review your pay stub regularly to see exactly how your paycheck is calculated, and speak to HR or payroll if you have questions or want to adjust your deductions.

The information provided in this blog post is intended for general informational purposes only and should not be construed as legal or tax advice. While every effort has been made to ensure the accuracy of the information, tax laws and regulations are subject to change, and individual circumstances may vary. For personalized advice and to ensure compliance with current tax laws, it is strongly recommended that you consult with a qualified tax professional, financial advisor, or legal counsel. The author and publisher of this blog assume no responsibility for any errors or omissions, or for any actions taken based on the information contained herein.