What Is Net Income?

Net income for individuals and businesses refers to the amount of money left after subtracting direct and indirect expenses, taxes, and other deductions from their gross income. The income statement typically mentions it as the last line item, reflecting the profits made by an entity.

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Net income, also known as net profit or earnings, helps people manage their finances, businesses estimate their earnings per share, and investors analyze the company’s financial status. It also represents a net growth in company shareholder equity from business activities. It differs from gross income, which merely excludes the cost of products or services sold from revenue.

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For eg:
Source: Net Income (wallstreetmojo.com)

Understanding Net Income

Net income describes funds available for an individual or business to spend after paying taxes and other expenses. Whether a manufacturer or service provider, they require substantial capital to operate and earn profits. Furthermore, it has to incur lots of costs, such as office rent, employee salaries, machinery, transportation, raw materials, cost of goods and services, electricity, taxes, logistics, etc. Therefore, total earnings excluding direct or indirect costs help the firm find its net profit. The company can either keep the profits or distribute them as dividends among its stockholders.

The business world is quite unpredictable and involves significant money and risks. Hence, investors, shareholders, and creditors analyze the company’s income statement to understand its net earnings, i.e., gross income minus expenses. It allows them to make investment-related decisions or the company’s ability to pay dividends, repay loans, repurchase shares, etc.

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For eg:
Source: Net Income (wallstreetmojo.com)

Due to time, inflation, supply chain management, smart investments, and prudent spending planning, the net earnings may increase or decrease. When comparing net income vs gross income, the latter is the total revenue from various income sources, such as discounts, allowances, return on investment, etc.

Sources of Income

The different sources of income that are subject to certain deductions before giving out net profit or income include:

• Dividends
• Online selling
• Stock market investments
• Salaries and wages
• Renting out properties
• Royalties
• Savings or checking accounts
• Social Security payments, etc.

Expenses Deducted From Net Income

The calculation of net earnings necessitates subtracting certain expenses from the gross income, including:

• Administrative and operating costs
• Amortization
• Cost of goods or services sold
• Depreciation
• Discounts and allowances
• Interests
• Preferred stock dividends
• Taxes

How to Find Net Income?

The calculation of the price of the goods takes into account all costs associated with their production. When a company sells a product or receives payment for its services, it accounts for its revenue. The net profit occurs after deducting all expenses plus taxes incurred during the process from the gross revenue. It is usually determined annually for each fiscal year and reflected on the income statement. Let us find net income for individuals and companies:

• For individuals –

Net earnings or income = Income from various sources (gross income) – Payroll taxes – Other expenses

• For businesses –

Net profits or income = Net sales revenue (gross income) – Cost of goods and services sold – Administration, operating, marketing, and advertising costs, taxes, interests, and other expenses

• Another way to find net income as used by many companies is – 

Net profits or income = (Operating income + Non-operating income) – Taxes

Net Income Examples

Let us look at the following net income examples to understand the concept better:

Example #1

Jessica runs a small factory manufacturing plastic drinking water bottles. She also rents small office space for administration and contact purposes. The office houses laborers and a small staff to look after the premises, invite clients, and hold business meetings. The plant produces 20000 bottles every month. Each bottle is labeled with a $2 retail price.

Jessica earns $40,000 in sales in a month after shipping finished bottles to wholesalers, distributors, and suppliers. She has to pay expenses incurred, like raw materials, rent, machinery, inventory, labor wages, and other general and operational costs of the office and the factory. She then pays interest on her loans, taxes and calibrates the depreciation. After all this, Jessica is left with $18,000. It will be the net profit of her business for a month.

Example #2

Tesla’s net profitability surpassed $1 billion in the second quarter of 2021. Given the hurdles the company experienced, such as supply chain disruptions, a lack of vehicle parts and energy storage items, consumer reaction in China, product recalls in the United States and China and delayed deliveries, the achievement was extraordinary. As a result, Tesla’s share prices increased by around 2% after making the earnings public.

Importance of Net Income

Net profit indicates a company’s profitability, making it crucial for investors and stockholders. They often take both gross and net income to understand the company’s financial stability. Here are some other reasons that make net profits so important for a business:

• First, it serves as an economic indicator for computing ratios and values like operating cash flow and net profit margin.
• Second, when a company applies for a loan, the bank considers its net earnings before approving the loan.
• Third, firms determine their EPS (earnings per share) with the help of net profits and report it to investors and shareholders.
• Fourth, it helps the management understand the sales revenue, expenses, taxes, interests, loans, and actual profit.
• Finally, the administration utilizes the net profit for financial modeling to forecast future trends and expectations, set goals, and achieve them.

Frequently Asked Questions (FAQs)

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This has been a guide to what is Net Income and its Meaning. Here we explain how to find net income along with its sources, importance, and examples. You may learn more about our articles below on accounting –

• Operating Income vs Net Income
• Revenue vs Net Income
• EBITDA vs Net Income