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Personal income

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In economics, personal income refers to an individual's total earnings from wages, investment enterprises, and other ventures. In general, it refers to all products and money that one receives.

Personal income can be defined in several different ways:

  • That income received by the individuals or households in a country during the year from all sources[1][verification needed]
  • The earned income or transferred income received by households within the country or outside
  • The total capital that an individual receives from various sources in the course of their life or over a certain period of time

Personal income can be defined to include many types of income in addition to wages. For example, it can include dividends, transfers, pension payments, government benefits, and rental income. Personal income is usually calculated before deducting taxes charged to an individual.[2] Personal income is an indicator that shows the real well-being of people and their ability to pay for products or services (before taxes).[3]

Types of personal income

There are several types of personal income:

  • Nominal income or total income is the amount of money that an individual receives before taxes and mandatory payments have been deducted.
  • Real income is the amount of money that an individual receives, with inflation taken into account. Real income is useful for calculating fixed payments for an extended period of time.[4]
  • Disposable income is the amount of money that an individual is able to use after income taxes have been deducted.[5]

Personal income can also be divided by source:

  • Earned income is money received as direct payment for work.
  • Portfolio income is money received by selling assets, equivalent to the difference between the price for which an individual sells an asset and the price they paid for the asset.
  • Passive income is money received without significant action from the recipient. This includes rental income, royalties, and some business income.
  • Non-passive income is money that requires an individual's material participation but is not earned income. This typically includes income from business ownership when an individual is an active participant in the business.[6]

The relationship between socio-economic and the personal income

In recent decades, there has been a steadily increasing concern of the economy of the personal and household income, which is considered as a socio-economic unit that bonds people with relationships that arise when organizing their joint life. At the same time, it is an equal economic entity that regulates the consumption of goods created in the economy and provides the social economy with the available resources.[7]

The socio-economic core of personal income has become particularly important in recent years, which coincided with the development of consumer credit. According to E. A. Maznaya, the household should be considered as a system of economic relations between the individual and society (as well as between people who combine their budget and jointly make decisions), created by a person to meet their needs and reproduce their living conditions.[8][7]

Households and personal income aspects

Personal income (household and family finances) is an economic relationship for the formation and use of monetary funds in order to ensure the material and social conditions of life of members of society and their reproduction. Now there is no doubt that in the conditions of developed market relations, personal Finance is allocated as an independent part of the financial system.[7][9]

A comprehensive study of this subject is devoted to numerous publications that address such issues as managing and controlling personal expenditures through the use of personal budgets and accounts; skillful distribution of consumption expenditures; planning taxes, insurance payments, medical care and debt repayment; income management and planning for property accumulation and retirement; a reasonable approach to purchases and borrowing; spending on raising children, education, insurance, etc.[10]

The difference in personal income and National income

Personal income is considered as a part of national income received by households which is the income existed by production aspects. However, National income is caused by production aspects.[11] Personal income is the money received by factors of production, whereas national income is the income generated by them. The government sector's income is included in national income but not in personal income. Companies' undistributed profits and corporate profit taxes are components of national income, but they must be removed from personal income calculations. Windfall games, which are not included in national income, are included in personal income. Personal income, but not national income, includes interest on the national debt.

Personal income calculation

PI = Undistributed profits UP (received by earnings) - Corporate tax CT (received by government) - Net interest households payment NIH (payment made from households) + Transfer payment from households TPH (received by households) [11]

Size distribution of income

The most common way to measure inequality in economics usually consists of arranging all individuals, or more commonly households, within an economy by ascending incomes and dividing them into distinct groups. A common way to create such an arrangement is to divide a population into quintiles (fifths) or deciles (tenths) and determine what part of the total income is received by each group. This allows for a clear inspection of the spread of the income within a group and to evaluate underlying causes and effects.

A popular measure that is used to visualize income inequality within a society is the so-called Kuznets ratio which compares the share of the total income received by the top 20% to income received by the bottom 40%.[12] This ratio allows to measure the inequality between high and low-income groups within a population.

Another common approach is the construction of a Lorenz Curve, which is a graphical representation of the members of a population in cumulative percentages.[12] Income recipients are plotted along the horizontal axis with the y-axis representing the cumulative share of total income received. A diagonal line represents perfect equality, whereas perfect inequality would be a situation in which the Lorenz line would first overlap with the horizontal line and later follow the y-axis implying one person receiving 100% of the income. Lorenz curve provides a simple, but informative evaluation of spread of total income within society; it allows for easy inspection of different income groups and the relation between them.

The extension of the Lorenz Curve is the so-called Gini coefficient, it is a measure of statistical dispersion between the 45° line, representing perfect income equality, and the plotted Lorenz line.[13] Gini-coefficients can vary from 0 to 1, where a higher value of Gini implies a higher degree of income inequality within a population with Gini of 1 representing perfect income inequality.

Gini coefficient is an important indicator of inequality, due to its simplicity and the fact that it satisfies four crucial properties which allow it to be easily used to compare different countries. Those properties are:

  1. Anonymity Principle: Measure is independent of who has the higher income and is not influenced by perceptions of different sub-groups within society.[12]
  2. Scale Independence Principle: Measure is independent of the scale of the economy or determinants of income.[12]
  3. Population Independence Principle: Measure is independent of the scale of the population.[12]
  4. Transfer Principle/Pigout-Dalton Principle: Transferring a certain amount of income from a richer person (up until the point of richer person becoming poorer than the transferee) will increase distribution equality.[12]

Because of this, it is possible to compare vastly different countries with each other and draw conclusions on the inequality between those societies. Even between OECD countries, there is a substantial amount of variation, as to the value of Gini. The fact that Gini coefficient satisfies aforementioned properties and is quite simple to construct given that it does not require data that would otherwise be hard to obtain, makes Gini the most popular and widely used measure of evaluating income inequality.

As of 2021 OECD member with the highest Gini coefficient is Costa Rica with value of 0.479 whereas the country with the lowest Gini is the Slovak Republic with coefficient of 0.236.[14] Slovakia is indeed globally the country with the lowest Gini coefficient, highest being South Africa with the value of 0.63.[15] This high degree of income inequality is attributed to multiple factors; historical apartheid, very high level of unemployment, significant level of youth NEET, underdeveloped education system and high population growth, among other significant components.[16][17] Unemployment in South Africa is indeed highest in the world[16] with NEET share being in one of the highest on the continent (14th),[18] this combined with high increase in upward mobility after 1994 for majority of the population resulted in very high level of inequality within South Africa.

An important consideration that needs to be kept in mind is the fact that the Gini coefficient provides a "country-wide" overview of income inequality. It does not take into account location nor the occupational sources of income.[12] Additionally, criticism is drawn towards the benchmark of perfect equality where in order to maintain Lorenzian equality requires not only equal lifetime incomes but also excludes considerations about households rising children requiring the same amount of income, as households in the retirement stage.[19] Empirical and theoretical analysis presents this assumption, as unsuitable in considerations of income equality.[19] The lack of distinction in the size of the households is often considered to be a significant drawback and obstruction while using simple evaluation, based solely on a comparison of household income. This is why other measures have been proposed in order to circumnavigate those issues. Atkinson index introduces a sensitivity parameter that determines, how much the researcher is concerned about the inequalities displayed at the bottom of the income distribution.[20] Variation of Atkinson index is the general entropy index (GE) which introduces sensitivity parameter, however, this parameter measures the sensitivity to inequalities at the top part of income distribution.[20] The issues with those indexes is the fact that they introduce a parameter that is completely subjective to the person conducting the survey, this makes them certainly less scientific, as personal biases and beliefs will determine the outcome of the given study. Similarly other measures such, as Theil index have also been criticized for their arbitrariness, by some of the most prominent development economists such as Amartya Sen.[21] In general Sen emphasizes the need to focus on other parameters then just income while evaluating inequality, with Sen's capabilities and functionings approach being one of the most influential prisms of evaluation of human welfare.[22]

Sources of personal income

  • Wage
  • Extra charges (i.e. paid for harmful work)
  • Social payments
  • Profits from owning real estate (rent)
  • Lotteries, prizes
  • Dividends
  • Unemployment compensation

Usually, we are used to thinking of personal income as of wage only, but as you have already seen, there are more types of personal income.[23] Rent, salary, wages, interest, and profits, for example, account for a significant amount of personal income, as do factors of production such as land, labor, capital, and entrepreneur.

1. Wages / Salaries: Individuals and households earn 60% of their income through salaries and wages. As a result, wages, salaries, and other labor incomes are the official term for labor in the national income and product accounts.

2. Rent : The rental income earned by each household member is included in the PI. The rent is collected by the owners from the rented homes, land, plant, or equipment. Rent accounts for about 2% to 3% of personal income.

3. Interest : According to the Bureau of Economic Standards' national income and product accounts, the official word for interest as a component of personal income is personal income. Bank accounts, fixed income instruments or bonds, and any other type of loan generate interest. Interest accounts for 10% to 13% of total PI.

4. Profit : Profit is the entrepreneur's part of the company's capital. In the personal income formula, the dividend is the formal entry for profit. In terms of personal income, the dividend ranges from 2% to 4%. Furthermore, there are two types of business profit that are not distributed: retained earnings and corporate taxes on gains.

5. Profits of the proprietor : Owners of sole proprietorships and partnerships do not get wages or salaries. Instead, they are paid a percentage of the league's profits, known as the proprietor's income. It accounts for about 10% of PI.

6. Payment Transfers: The above-mentioned components are the earned and received income. The relative accounts for about 80% to 85% of personal income. Transfer payments account for the remaining 15 percent to 20%. The money received but not generated by the factors of production is referred to as transfer payments. Social security benefits, welfare payments, and unemployment compensation are all examples of transfer payments.

A second method involves altering the National Income with income received and earned, as well as income that was not earned but received.

PI = NI + Earned but Unpaid Income + Earned but Unpaid Income

#1 - Earned but unpaid income

Undistributed profits, social security taxes, and corporation taxes are the three largest sources of income that aren't received. Undistributed profits are the business's part of revenues for future business prospects, whereas social security taxes are the contribution given by workers. Finally, firms are responsible for paying corporate taxes on their profits.

#2 - Received but not earned income

Social security benefits, unemployment benefits, and welfare payments are the three main sources of income that are not earned. The government provides these three incomes to the household members. Senior individuals, disabled people, and retirees receive social security benefits.

The government pays unemployment compensation to unemployed members of the household in order to maintain a reasonable quality of life. Finally, the government provides social subsidies to the poorest members of society.

Importance of personal income

For an average person, personal income reflects their well-being and the conditions in which they live. The higher the personal income, the higher the welfare and the better the living conditions. Therefore, people tend to increase their personal income in various ways, so they are to be able to afford more goods. Rising money does contribute to increased happiness, but it requires people to be hopeful and not have unrealistic expectations. Increases in household income were linked to greater happy moods and improved life assessments.

Personal income tax

Personal income tax is a tax imposed on income which has been generated by an individual. The government adjusts the tax according to the jurisdiction of a country. Income tax is a source of the government's revenue, that will be spent on public goods and services.[24][25]

It is the most progressive tax; however, there are significant cross-country variations, with social security contributions, consumption taxes, and real estate taxes tending to be regressive in most countries. Also, the tax expenditures pertaining to personal income tax, that are tend to benefit the well-off, and the main exception being in-work tax credits. Besides, the personal income tax is progressive and gross replacement rates are generally below 100%. According to the 2008 OECD data, most of the households surveys are focused on the personal income tax, followed by social security, contributions which are paid by the employees, and sometimes property taxes.

However, despite the cuts in the marginal rates, labour taxes have often become a more progressive tax, and personal income tax schedules have become more flatter over the past decade. Furthermore, despite the cuts in top rates, tax schedule progressively which has increased in a majority of OECD countries since 2000, and largely driven by changes at the lower end of the income distribution. And, to make it more attractive for the spouse and low-paid workers in many countries such as Belgium, Canada, Finland, France, the Netherlands, the Slovak Republic, Sweden, the United Kingdom, and the United States have strengthened in the work benefits targeted at low-income groups; therefore, they are incidentally increasing the progressivity of the personal-income tax. And, on the tax side, the personal income tax often plays a marginal role in the total tax, and the progressively of labour tax schedule is relatively limited. In contrast, the personal-income tax and social security contributions move in the same direction, especially when the share of taxes of labour decreases, and in some cases the reduction of the share of taxes on labour has achieved through a shift among the three different components. For instance, the Netherlands has increased the share of social security paid by employers, and France has increased the share of personal-income tax, whereas Latvia has decreased the share of taxes on labour by compensating an increase in personal income tax and social security paid by employees through significant cuts in employers social security.[26]

Personal income tax revenues are dependent on wages and employment (WtLt), and the rationale of social related expenditure is affecting the personal income taxation, the tax expenditure has long been used as a tool for promoting a social and economic objectives. In the US the social tax expenditures are affecting personal income taxation and represent the main part of total tax expenditure in relation to GDP. There are four preferential tax treatments affecting the personal-income tax, related to housing, pension, education and health expenditure. According to the OECD 2019, there is a rise in tax wedge rates driven by the higher income, and it was the major factor in 20 of the countries of OECD showing an overall increase. And, the largest rise in personal income taxes as a percentage of labour costs was in France (1.36%), largely due to an increase of 1.7% points in surtax rate; however, the increase in personal-income tax was mostly offset by reduced social security contributions.[27][28]

Taxable vs. Non-taxable Income in United States

Almost all types of income are considered taxable by the IRS, however a tiny number of revenue streams are not. If you are a member of a religious order who has taken a poverty vow, work for an organization managed by that order, and turn up your earnings to the order, your income is non-taxable.

Similarly, the value of an employee achievement award is not taxed as long as certain conditions are met. If a loved one passes away and you receive a life insurance payment, that is also non-taxable income.

Taxable and non-taxable income are defined differently by different taxing authorities. While the IRS considers lottery winnings taxable income in the United States, the Canada Revenue Agency considers most lottery prizes and other one-time windfalls to be non-taxable.

See also

References

  1. ^ Wataru Souma (2002). "Physics of Personal Income". arXiv:cond-mat/0202388.
  2. ^ "Личные доходы". June 26, 2015.
  3. ^ Cummins, Robert A. "Personal income and subjective well-being: A review." Journal of Happiness Studies 1.2 (2000): 133-158.
  4. ^ Usher, D. (1987). "Real Income". The New Palgrave Dictionary of Economics. London: Palgrave Macmillan. doi:10.1057/978-1-349-95121-5_1830-1.
  5. ^ Will Kenton (December 13, 2019). "Disposable Income".
  6. ^ Jason Watson (February 22, 2020). "Three Types of Income".
  7. ^ a b c Cherdyntsev, Gennady Mitrofanovich. "Personal Finance, the structure of income and expenditure of the population at the regional level." Bulletin of Omsk University. Economics Series 4 (2008)
  8. ^ Maznaya E. A. on socio-economic functions of the household in modern Russia // Economic Sciences. - 2006. - n # 3(16). - Pp. 91-96.
  9. ^ Vakhrin P. I., Neshitoy A. S. Finance and credit. - Moscow: Dashkov and Co., 2005. /P339/
  10. ^ Wolfel CH. j. encyclopedia of Finance and banking. - M.: Corporation "Fedorov", 2000.
  11. ^ a b "Macroeconomics Personal Income". YouTube.{{cite web}}: CS1 maint: url-status (link)
  12. ^ a b c d e f g Todaro, Michael P.; Smith, Stephen C. (2020). Economic Development (13th ed.). Pearson Education. ISBN 978-1-292-29115-4.
  13. ^ Gastwirth, Joseph L. (1972). "The Estimation of the Lorenz Curve and Gini Index". The Review of Economics and Statistics. 54 (3): 306–316. doi:10.2307/1937992. ISSN 0034-6535. JSTOR 1937992.
  14. ^ "Inequality - Income inequality - OECD Data". theOECD. Retrieved 2023-04-25.
  15. ^ "World Bank Open Data". World Bank Open Data. Retrieved 2023-04-27.
  16. ^ a b "World Bank Open Data". World Bank Open Data. Retrieved 2023-04-28.
  17. ^ Harmse, Liana (2014). South Africa's Gini coefficient: causes, consequences and possible responses. OCLC 956372798.
  18. ^ "Africa: share of youth NEET by country". Statista. Retrieved 2023-04-28.
  19. ^ a b Paglin, Morton (1975). "The Measurement and Trend of Inequality: A Basic Revision". The American Economic Review. 65 (4): 598–609. ISSN 0002-8282. JSTOR 1806537.
  20. ^ a b Maio, Fernando G. De (2007-10-01). "Income inequality measures". Journal of Epidemiology & Community Health. 61 (10): 849–852. doi:10.1136/jech.2006.052969. ISSN 0143-005X. PMC 2652960. PMID 17873219.
  21. ^ Conceicao, Pedro NMI2; Ferreira, Pedro M. (2000). "The Young Person's Guide to the Theil Index: Suggesting Intuitive Interpretations and Exploring Analytical Applications". SSRN Electronic Journal. doi:10.2139/ssrn.228703. ISSN 1556-5068. S2CID 19009769.{{cite journal}}: CS1 maint: numeric names: authors list (link)
  22. ^ Sen, Amartya K. (1997). "From Income Inequality to Economic Inequality". Southern Economic Journal. 64 (2): 384–401. doi:10.2307/1060857. ISSN 0038-4038. JSTOR 1060857.
  23. ^ Robert Bellafiore (September 11, 2018). "Sources of Personal Income 2016 Update".
  24. ^ Julia Kagan (August 28, 2019). "Income Tax".
  25. ^ FindLaw's team (February 24, 2020). "Personal Income Tax: Overview".
  26. ^ Taxing Wages 2019 (PDF) (Report). OECD.
  27. ^ OECD Journal: Economic Studies. doi:10.1787/19952856. ISSN 1995-2856. S2CID 239183238.{{cite journal}}: CS1 maint: untitled periodical (link)
  28. ^ Förster, Michael; Llena-Nozal, Ana; Nafilyan, Vahé (2014-05-15). "Trends in Top Incomes and their Taxation in OECD Countries". OECD Social, Employment and Migration Working Papers. 159. doi:10.1787/5jz43jhlz87f-en. ISSN 1815-199X.
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