You may have an understanding of gross income as it pertains to an individual, but gross income for a company is a little different.
When you calculate your individual gross income, you’re finding your total pay before taxes or deductions. When you calculate your company’s gross income, on the other hand, you’re looking at the total revenue your company has made minus the cost of the goods you sold (COGS).
Gross income is also often referred to as gross profit, and the two terms can be used interchangeably. And while it sounds similar to net income and gross margin, they are actually quite different. Confusing, we know.
Gross income is one of the best measures of company health, so it’s important to understand both what it is and the distinctions between these similar-sounding terms. Let’s start with how it’s calculated.
How to Find Gross Profit
The equation for gross income is quite simple:
Gross Income = Gross Revenue – Cost of Goods Sold (COGS)
Your gross revenue is found by adding up all of your sales, then subtracting your returns and allowances. It is everything you sold during the period you’re looking at.
Once you have your gross revenue, you need to figure out your cost of goods sold. Your COGS is calculated by adding the cost of your labor, materials, supplies, and other related purchases. COGS does not include administrative costs or any expenses that are not directly related to the creation of what you sell. Things like rent and insurance, for instance, would fall under operating expenses instead.
Once you have these two figures, you can subtract your COGS from gross revenue to find your gross income.
Say you’re a furniture builder and you make $300,000 over the course of a year. If you spent around $100,000 on parts and materials to make your furniture, then your gross income would be $200,000.
Gross Income vs. Gross Margin
Gross margin is another way of analyzing your gross income. While gross income is shown as a dollar amount, gross margin shows gross income as a percentage of sales.
Gross Margin = Gross Income / Gross Revenue
Your gross income number may fluctuate with sales. If your furniture company had a strong year, gross income may shoot up—but so will COGS. Gross margin allows you to analyze the relationship between revenue and COGS in more detail.
For example, the furniture company above would have a gross margin of 0.67. Not bad!
$200,000 / $300,000 = 0.67
Let’s say the company has a down year, bringing in only $200,000 in revenue. But COGS remains at $100,000. In this case, gross margin would drop to 0.5.
$200,000 (Gross Revenue) – $100,000 (COGS) = $100,000 (Gross Income)
$100,000 (Gross Income) / $200,000 (Gross Revenue) = 0.5 (Gross Margin)
Put simply, gross margin gives you another method of analyzing gross income beyond the size of the dollar amount shown. They’re both important metrics to keep an eye on in their own right, but they show very different things.
Gross Income vs. Net Income
Net income is lovingly referred to as the “bottom line” due to its place at the bottom of the income statement. And in the accounting world, it also goes by net profit.
In many cases, it’s the number that matters most to business owners because it shows all the money left over after all expenses are paid—both COGS and operating expenses. Operating expenses include all those administrative costs that aren’t directly related to production, like utilities and rent.
Both gross income and net income are displayed on the income statement, and when it comes to analyzing net income, the first question to ask yourself is, “Is my net income positive or negative?”
In other words, did the company make money or lose money over a certain period?
If net income is negative (or closer to negative than you’d like), gross income can help you determine what went wrong. Were sales down? COGS too high? Or were operating expenses to blame?
Net income gives you a big-picture view of the company’s health. Comparing net income to gross income lets you dig deeper.
Why Gross Income Matters
Your company’s gross income is the most straightforward way to measure your profitability and is necessary to report on your tax return. By measuring how much your cost of goods sold is taking away from your overall sales, you can better understand if you’ve launched a promising business or if you’re spending too much to create your products.
Banks will also look at gross income, gross margin, and net income to analyze whether or not to loan your business money. By looking at all three, they can make a judgment call on the likelihood you’ll be able to repay the load.
Reporting Gross Income
You will need to report your gross income on your businesses’ income tax forms. If you’re a sole proprietorship or a single-member LLC, you’ll report your gross income by filing Schedule C. If your business operates as a partnership or multi-member LLC, you’ll file Form 1065 and report your gross income using that form. Lastly, for corporations, you’ll use Form 1120-S (S Corp) or Form 1120.
Gross Income on the Income Statement
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