Disposable income is the money that is left with you, at your disposal, after paying off all taxes, including federal, state and local. This is the money available for you to spend and save[i]. It is also referred to as disposable personal income (DPI). This is an important parameter, which is used as one of the indicators to evaluate the economy of the country[ii].
If you want to know how to calculate your Disposable personal income, then it is very simple. Consider all the income you earn from all sources (salary, commission, incentives, interest). Let this be A. Next consider all the taxes you pay, including income tax, state taxes, local taxes, and deductions for Medicare and any other social security measure. Let this be B.
Disposable income = A – B.
Why is it important?
Disposable income is important[iii]because it is the money that people have to spend or to save. Therefore, this is an important parameter used to judge the state of the economy. There are other parameters like discretionary income, marginal propensity to consume, and marginal propensity to save. To calculate all these parameters, disposable income is the basic data needed. This explains its importance. It also helps to determine demand, because the availability of disposable income means that people would spend money to save products.
In the United States, disposable income in October 2017 was $14513.3 billion. As of October 2018, it was $15650.96 billion[iv].
Disposable vs. Discretionary
In some places, you may see the terms disposable income and discretionary income used interchangeably. But this is not correct, both are different terms. Disposable income is income left over after deducting taxes. Discretionary income is the income left over after all expenses and savings. This is the amount left for spending on non-essential purchases, after spending on all essential items and saving for the future. It is the money spent on eating out, entertainment, a vacation, etc.
You would ideally need to budget every year to make an estimate on how much disposable income you would have. Firstly list out all the sources of income you expect for the year, including salary, bonus, incentive, earnings from rent, business income, and any other income. Then based on the present tax rate, deduct taxes from the income. Make sure you include all taxes, even payouts for Medicare and any other social security schemes. The amount you end up after deducting taxes from your income is the disposable income for the year. You can then plan your expenses for the years and savings, based on disposable income.
Increasing your disposable income
Once you make a budget, you may realize that the income you have is not sufficient to meet your savings needs. You then need to work towards increasing your disposable income levels. There are various ways you can do this. You need to work to get a salary hike or get a new job that offers a higher pay. The second option is to take up a part-time job after office hour or even start a business which you could manage online or in your post-work hours. You can also look at earning from your investments. This would help you to increase your disposable income.
The income left after deducting all taxes is disposable income. While it is one of the parameters to judge the national economy, it is also critical for you as an individual to run your home.