Net Pay vs. Gross Pay

Full definition

Understanding the difference between gross and net pay is essential for accurately assessing loan affordability. Gross income: Your total compensation before any deductions. Includes base salary, bonuses, commissions, overtime pay, and other forms of compensation. This is the number that appears on offer letters, pay stubs before deductions, and W-2 box 1 (wages, salaries, tips). Self-employed borrowers use gross revenue minus business expenses (Schedule C net income, or business net profit) as their qualifying income. Net income (take-home pay): What you actually receive in your bank account after: federal and state income tax withholding, FICA taxes (Social Security 6.2%, Medicare 1.45%), health insurance premiums, 401(k)/IRA contributions, other voluntary deductions. A common rule of thumb: net pay is approximately 65%-75% of gross pay for a middle-income W-2 employee, depending on tax bracket, state income tax, and benefit elections. What lenders use: Lenders calculate DTI using gross monthly income. If a lender says their maximum DTI is 43%, they mean your total monthly debt payments (including the new loan) cannot exceed 43% of your gross monthly income, not net. This matters because your gross is higher than your net, so the 43% threshold against gross income leaves less room for debt than it might appear. What you should use for budgeting: Use your net income (actual take-home pay) for budgeting analysis. Can you genuinely afford the new monthly loan payment on what actually hits your bank account each month? Rule of thumb: your total monthly debt payments (all loans + minimum credit card payments) should not exceed 35%-40% of your net take-home pay to leave room for housing, food, transportation, and savings.

• Debt-to-income ratio (DTI)
• Income Verification
• Income-to-Debt Ratio