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In economics, personal income refers to the total earnings of an individual from various sources such as wages, investment ventures, and other sources of income. It encompasses all the products and money received by an individual.
Personal income can be defined in different ways:
Personal income encompasses various forms of income beyond just wages. It can include , transfers, pension payments, government benefits, and rental income, among others. Taxes charged to an individual are typically not deducted when calculating personal income. Personal income serves as an indicator of the real well-being of people and their ability to afford products or services before taxes are applied.Cummins, Robert A. "Personal income and subjective well-being: A review." Journal of Happiness Studies 1.2 (2000): 133-158. Real income considers inflation and represents the amount of money an individual receives with the effects of inflation considered.
Personal income can be categorized based on its source:
The socio-economic significance of personal income has become particularly pronounced in recent years, coinciding with the development of consumer credit. According to E. A. Maznaya, the household should be regarded as a system of economic relations between individuals and society and among people who pool their budgets and collectively make decisions. Individuals form these economic relations to meet their needs and sustain their living conditions.Maznaya E. A. on socio-economic functions of the household in modern Russia // Economic Sciences. - 2006. - n # 3(16). - Pp. 91-96.
Numerous publications have extensively examined this subject, addressing various aspects such as effective management and control of personal expenses using budgets and accounts, strategic allocation of consumption expenditures, planning for taxes, insurance payments, medical care, and debt repayment, as well as income management and strategies for accumulating assets and planning for retirement. Other important aspects include making informed decisions regarding purchases and borrowing, budgeting for child-rearing, education, insurance, and more.Wolfel CH. j. encyclopedia of Finance and banking. - M.: Corporation "Fedorov", 2000.
The income of the government sector is considered as part of national income but not included in personal income calculations. Additionally, certain components, such as companies' undistributed profits and corporate profit taxes, are accounted for in national income but must be excluded from personal income calculations. Conversely, windfall gains, which are not part of national income, are included in personal income. Furthermore, interest on the national debt is considered in personal income but not in national income.
PI = National Income - Undistributed profits (UP) - Corporate tax (CT) - Net interest households payment (NIH) - social security contribution + Transfer payment from households (TPH) + interest of public debt + windfall gain
In this formula:
One popular measure used to visualize income inequality is the Simon Kuznets ratio, which compares the share of total income received by the top 20% of the population to that received by the bottom 40%. (2025). 9781292291154, Pearson Education. ISBN 9781292291154 This ratio helps gauge the inequality between high and low-income groups within a society.
Another common approach is constructing a Lorenz curve, a graphical representation of the cumulative percentages of income recipients. The curve compares the actual income distribution to perfect equality (represented by a diagonal line) and perfect inequality (where one person receives 100% of the income). The area between the Lorenz Curve and the diagonal line calculates the Gini coefficient, which ranges from 0 to 1. A higher Gini coefficient indicates higher income inequality, with 1 representing perfect inequality.
The Gini coefficient is widely used because it satisfies important properties that allow for easy comparison of income inequality between different countries. It is considered a simple yet informative measure for evaluating income distribution within societies.
As of 2021, Costa Rica has the highest Gini coefficient among OECD countries at 0.479, while the Slovak Republic has the lowest at 0.236. Globally, South Africa has the highest Gini coefficient at 0.63, attributed to various factors such as historical apartheid, high unemployment, underdeveloped education, and significant population growth.
The Gini coefficient provides a "country-wide" overview of income inequality and does not account for factors like location or occupational sources of income. Critics also point out that it disregards household size and the different needs of households, such as raising children or providing for retirement. Other measures, like the Atkinson index or the Theil index, have been proposed to address some of these limitations but have their own subjective parameters, making them less scientific. Economist Amartya Sen advocates for a broader evaluation of human welfare beyond income, emphasizing capabilities and functionings as important considerations.
A second method of calculating personal income involves adjusting the National Income by considering earned but unpaid income and received but not earned income:
PI = NI + Earned but Unpaid Income + Received but not Earned Income
Increasing personal income can lead to greater happiness. However, although rising income has been linked to improved moods and life assessments, it is not the sole determinant of happiness. Other factors, such as social connections, health, and personal fulfillment, also play crucial roles in overall well-being.
The personal income tax is generally considered the most progressive tax, meaning that higher-income individuals are taxed at higher rates compared to lower-income individuals. However, there are variations in tax systems across countries, with some taxes like social security contributions, consumption taxes, and real estate taxes being regressive in many places. Additionally, tax expenditures associated with personal income tax tend to benefit wealthier individuals, with in-work tax credits being a primary exception.
Over time, personal income tax schedules have changed, leading to flatter tax rates and increased progressivity in some countries. Various countries have implemented measures to make the tax system more attractive for low-income groups and spouses, thereby increasing the overall progressivity of the personal income tax. The role of personal income tax in the total tax revenue differs across countries, and its progressivity is relatively limited compared to other taxes like social security contributions.
Wages and employment influence tax revenues from personal income tax, and they are affected by social-related expenditures. Tax expenditures have been utilized as tools to promote social and economic objectives, with preferential treatments in housing, pensions, education, and health expenses being among the areas targeted.
In the United States, social tax expenditures significantly impact personal income taxation, making up a substantial portion of total tax expenditure as a percentage of GDP. Countries across the OECD have experienced changes in tax wedge rates, particularly in those with higher incomes. In France, for instance, the rise in personal income taxes as a percentage of labor costs was influenced by an increase in surtax rates, but this was partly offset by reduced social security contributions.
Similarly, the value of an employee achievement award may not be taxed as long as certain conditions are met. Additionally, if an individual receives a life insurance payment after the passing of a loved one, that payment is generally considered non-taxable income.
Taxable and non-taxable income can be defined differently by different taxing authorities. For instance, while the United States IRS considers lottery winnings taxable income, the Canada Revenue Agency may consider most lottery prizes and other one-time windfalls non-taxable. The tax treatment of various income sources may vary depending on the country and its tax regulations.
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