Disposable personal income
|Disposable personal income|
Disposable personal income (or so called DPI) - sum of the income the individual has, after adding all income from different sources, such as wages, mixed income, net property income, social benefits and other potential incomes that the individual may get, and deducting taxes from it. In other words, amount of money that the person gets after payment of all income taxes needed (Ruser, 2004). Other names that can be called for this type of income are disposable earnings as well as after-income tax. In national accounts equation would look like following way: personal income – personal current taxes = disposable personal income. When it comes to the deductions in the form of taxes it implies : social security, medical insurance as well as other obligatory fees that the individual pays for the government as part of the suppress for instance for retirement system.
If we take a look at this definition from the macro level, we need to mention that this indicator is paid very much attention, as it is a way to evaluate the state of the economy in general. Disposable personal income can be also considered as one of the determinants for demand and spending. The amount of this particular type of income of an individual or group of individuals can help economists to understand how much money the consumer can spend and save. For instance, to understand, how previous statement looks like in real life we can use the example of the situation in USA previous years. In the 2019 and 2020 years, when the biggest economies faced crisis (which implied US economy as well), which is related to the COVID pandemic. The pandemic had big influence on the DPI, but in the 2021 the indicators rose $214.3 billion (Bureau of economic analysis, 2021). Also economists use this notion as one of the points to use for further calculations: discretionary income, personal savings rates, marginal propensity to save and marginal propensity to consume.
Discretionary income - this notion is often being confused with the disposable income. Although these terms are interconnected, they have different meanings. Discretionary income is the amount of money, that the individual has after all mandatory payments are done (for instance, rent or mortgage, transport, electricity). From the economic, as if was mentioned about disposable income is tracking more on the macro level, while discretionary on the micro. The amount of money, which is considered as discretionary income can be spend at will. Also, this type of income is the one, which “suffers” the most after the decrease in salary or loss of the job. The formula for discretionary income will be following: disposable personal income - cost of all necessary expenses
Personal savings rates - this notion is used to call the percentage of the disposable personal income for a particural goal of saving. For instance, retirement.
Marginal propensity - there are two different notions related to marginal propensity:
- marginal propensity to consume- is the percentage of each additional conventional unit of the disposable personal income that is spent immediately.
- marginal propensity to save - is the percentage of each additional conventional unit of the disposable personal income that is saved.
For the purposes of garnishing wages, the federal government calculates disposable income using a somewhat different methodology. This is the withholding of a portion of a worker's paycheck prior to payment each pay period until the sum owed for unpaid back taxes or past-due child support is paid.
The government uses disposable income as a starting point to calculate how much of each paycheck to withhold for this purpose. If a person's weekly income is greater than 30 times the federal minimum wage or 25% of that person's disposable income, whichever is smaller, it may be garnished. In this calculation, the amount contributed to a gross income retirement plan is also subtracted from disposable income.
The Bottom Line
After taxes, individuals use their remaining funds for consumption of requirements and wants. This is known as disposable income. Rent, bills, groceries, gas, and other costs are paid out of disposable income. Discretionary income is the amount that is left over after paying for necessities and savings. One can make more money or pay less tax to enhance disposable income. Collectively, rising disposable income gives households more money to spend or save, which inevitably fuels rising consumption. One of the key factors influencing demand is consumer spending; it generates the demand that enables businesses to remain successful and add new employees.
Examples of Disposable personal income
- Wages: This is the most common form of disposable personal income. It is the money an individual earns from their job. This can be from salary, overtime pay, tips, commissions, bonuses, etc. It is important to note that this income is typically taxed before the individual receives it, so the amount of money the individual actually has to spend is the net amount after taxes are taken out.
- Social Security Benefits: Social Security is a government program that provides income for individuals who are retired, disabled, or unemployed. This income is not taxed, so the amount the individual receives is the amount they have to spend.
- Investment Income: This includes income earned from interest, dividends, and capital gains from investments such as stocks, bonds, and real estate. This income is typically taxed, but the individual can often receive a tax deduction for the money they pay in taxes.
- Rental Income: This is money earned from renting out property, such as an apartment or house. This income is typically taxed, but the individual can often receive a tax deduction for the money they pay in taxes.
- Mixed Income: This is income from various sources, such as a side job or freelance work. This income is typically taxed, but the individual can often receive a tax deduction for the money they pay in taxes.
Advantages of Disposable personal income
- Disposable personal income is an important factor for measuring the well-being of individuals and households. It provides a measure of the amount of money available for spending after taxes have been paid and it can be used to compare the economic resources of different households.
- Disposable personal income can be used to compare the economic resources of different countries. It is a useful tool for economists to analyze the performance of a country's economy, as it measures the total amount of money available to households after taxes have been paid.
- Disposable personal income can be used to measure the economic health of a country. It is a good indicator of the level of economic activity in a country, as it measures the amount of money that households have available to spend.
- Disposable personal income can be used to measure the economic growth of a country. It is a good indicator of economic growth as it measures the amount of money that households have available to save and invest.
- Disposable personal income can be used to measure the levels of inequality in a country. It is a good indicator of the level of inequality in a country, as it measures the amount of money available to households with different incomes.
Limitations of Disposable personal income
- Disposable personal income does not take into account non-monetary benefits such as health care, and other non-cash incomes which can be important for individual’s overall wellbeing.
- It does not consider expenses and savings, so it does not provide an accurate representation of the economic status of an individual.
- It also does not account for regional differences in the cost of living, which can have a significant impact on the amount of disposable income available to an individual.
- Disposable personal income does not account for the effect of inflation, which can have a major impact on an individual's purchasing power.
- Lastly, it does not include the money that individuals have received from investments, which can also be a significant source of income.
- Adjusted Gross Income (AGI): AGI is calculated by subtracting certain deductions from the total income of an individual. These deductions include alimony payments, education expenses, student loan interest, and more.
- Net Income: Net income is calculated by subtracting all expenses and taxes due from the total income. These expenses include the cost of goods sold, rent, salaries, and taxes owed.
- Effective Tax Rate: This rate reflects how much of one’s total income is paid in taxes. It is calculated by dividing the total taxes paid by the total income earned.
- Gross Domestic Product (GDP): GDP is determined by measuring the total value of goods and services produced in a given period of time. It includes wages, profits, and other forms of income.
In summary, Disposable Personal Income can be approached from different angles including Adjusted Gross Income, Net Income, Effective Tax Rate, and Gross Domestic Product.
- Local Area Personal Income. (1980), "The bureau of economic analysis".
- Carson, Carol S. (1994), The Underground Economy: An Introduction, "Survey of current business".
- Goldberg, S. (1949), The Concept of Disposable Income: A Reply, "Canadian journal of economics and political science".
- Lillard, Lee, James P. Smith, and Finis Welch. (2000), What Do We Really Know about Wages?, "The journal of political economy".
- Disposable income in National Accounts at a Glance 2014. (2014), "OECD publishing".
- Ruser, John; Pilot, Adrienne; Nelson, Charles (2021), Alternative Measures of Household Income: BEA Personal Income, CPS Money Income, and Beyond, "Bureau of economic analysis".
Author: Kseniia Zalyvadna