Disposable Income - Meaning, Formula, Example

Disposable income or Disposable Personal Income (DPI) simply specifies the sum of the money that an individual will put away or use after paying all the taxes. The DPI works as a vital indicator that is routinely observed to evaluate the overall health and status of the economy at the macroeconomic level.

The individual's income is left after paying every tax, such as municipal, federal, and state taxes.

What exactly is Disposable Personal Income?

Disposable Personal income means the amount of money households have available for spending and saving after subtracting taxes and other necessary contributions from their overall income. It is the money you have left in your pocket after paying taxes and critical bills like housing, food, and healthcare.

Imagine your complete revenue as a full pie. The government takes a piece for taxes from this pie, and you use another slice to pay required costs like rent and food. Disposable Personal income is what's left - the piece of the pie that you may freely utilize for discretionary spending or saving.

Disposable Income Formula

The formula for calculating DPI is simple. To calculate disposable personal income, you begin with the total income generated and remove taxes and any compulsory payments.

In terms of mathematics, the formula may be written as follows:

Disposable Personal Income = Total Income - Taxes and Mandatory Payments

Disposable Income Examples

Example1:

Anita invests in stocks, bonds, and savings accounts. She receives interest and dividend payments on her investments. After accounting for any taxes on these earnings, the remaining income is Anita's disposable income. She can use this money for various purposes, such as purchasing goods and services or reinvesting in the financial markets.

Example2:

Vikram is a self-employed entrepreneur. He earns money from his business ventures. After deducting business expenses and taxes, the income he retains is his disposable income. This income can be spent on personal needs or reinvested into his business.

Disposable Income Calculation

Example 1: A businessperson, Priya, gets a yearly income of ₹1,200,000. She pays a fixed income tax of ₹120,000 and an extra 15% of her income beyond ₹1,000,000. Compute Priya's disposable personal income.

Solution: Tax on income beyond ₹1,000,000 = 0.15 × (₹1,200,000 - ₹1,000,000) = ₹30,000

Total tax = ₹120,000 (fixed tax) + ₹30,000 (extra tax) = ₹150,000

Disposable Income = ₹1,200,000 - ₹150,000 = ₹1,050,000

Priya's disposable personal income is ₹1,050,000.

Example 2: A family's total monthly income is ₹80,000. They spend 40% of their money on housing, 20% on education, 15% on food, and 10% on healthcare. After these fees, they invest 20% of the remaining money. Calculate their disposable personal income after investments.

Solution:

Total monthly costs = 0.40 × ₹80,000 (housing) + 0.20 × ₹80,000 (education) + 0.15 × ₹80,000 (groceries) + 0.10 × ₹80,000 (healthcare) = ₹32,000 + ₹16,000 + ₹12,000 + ₹8,000 = ₹68,000

Remaining income = ₹80,000 - ₹68,000 = ₹12,000

Investments = 0.20 × ₹12,000 = ₹2,400

Disposable Income = ₹12,000 - ₹2,400 = ₹9,600

The family's disposable personal income after investments is ₹9,600.

Significance of Disposable Personal Income

Here we have provided the points highlighting its significance:

Financial Freedom: Enables choices in spending, saving, and investing.

Economic Growth: Boosts consumer spending, driving economic expansion.

Standard of Living: Affords better housing, education, healthcare, improving life quality.

Savings and Investments: Fuels savings, and investments, ensuring financial security.

Market Demand: Affects business strategies, production, and marketing efforts.

Government Policies: Guides tax, and welfare programs, aiding targeted policies.

Debt Management: Helps manage debts, preventing financial stress.

Economic Stability: Reflects economic health, stability, and resilience.

Social Well-being: Facilitates participation in social and cultural activities.