To estimate the amount of money expected to be generated by an individual or business over a year, annual income is a critical calculation. Also known as ‘annualized income,’ this value is helpful for creating forward-facing budgets or creating estimates to base income tax payments on. As businesses or individuals plan for the year ahead, knowing how to calculate annual income is valuable for using existing data to build an expectation for how much income to expect in the months left out of the year.
Annual income is based on income earned over the current year, the number of months in the year, and the number of months for which income data is accessible. Available income data will be taken from the months of which it has been recorded so far in a year and used to project expected income for the remaining months of a year.
For company executives and investors in businesses, these projections are necessary for creating expectations to base estimations of a businesses’ future operations on. For individuals, annual income projections are often necessary to base important financial decisions on or to prepare for tax payments on earned income for the year.
This article will illustrate how to calculate annual income step by step and provide examples on how annual income can be utilized in various scenarios.
Definition
For those wondering “What is annual income?”, the definition of annual (or ‘annualized’) income is the earned income over a year multiplied by the ratio of the number of months in a year divided by the number of months during which income data has been recorded. For example, if a business recorded income for the months of January through May, this income and the number of months it was recorded over would be used in the projected annual income calculation. In this example, five months would be used since income data from January to May is being used.
What is Annual Income
Formula
Annual income is calculated by multiplying earned income from the current year by the ratio of the number of months in a year divided by the number of months during which income data is being used from. Income from all sources only from within the current year is used in the earned income figure.
Annual Income = Earned Income x (Number of Months in a YearNumber of Months Income Data is Used From)
Since there are always twelve months in a year, the formula can also be simplified and expressed to reflect this number.
Annual Income = Earned Income x (12 monthsNumber of Months Income Data is Used From)
How to Calculate Annual Income
Calculation Step by Step
- Calculate the earned income over the current year by adding income from all sources.
- Determine the number of months income data is being used from.
- Divide the number of months in a by the number of months income data is used from.
- Multiply this ratio by the earned income over the current year.
Following these steps will yield the product expressed in terms of currency like dollars, euros, or British pounds. This value represents the expected income projected to be generated over the coming year based on available income data from previous months within the same year.
Example
An individual works as a financial advisory consultant serving several clients. In order to create an accurate personal budget for the year ahead, the consultant needs to determine their projected annual income. This information will help them make estimated tax payments on their income over the year.
Based on their work over the months of January to May of this year, the financial advisory consultant calculated the following values as their income from each month:
January: $18,000
February: $19,000
March: $20,000
April: $22,000
May: $18,000
Since the consultant only has income data for the months through May, they know that only 5 months of earned income data will be used in the calculation.
First, the consultant will add their income from the months of January through May to determine their earned income for the year:
January: $18,000
February: $19,000
March: $20,000
April: $22,000
May: $18,000
Earned Income: $97,000
Next, the consultant will divide the number of months in a year by the number of months income data is being used from to solve for the ratio used in the calculation. Since income data has been gathered from January through May, 5 months of earned income data will be used:
Number of Months in a YearNumber of Months Income Data is Used From = Month Ratio
12 months5 months = Month Ratio
2.4 = Month Ratio
Finally, this ratio will be multiplied by the consultant’s earned income for the current year to solve for projected income:
Annual Income = Earned Income x Month Ratio
Annual Income = $97,000 x 2.4
Annual Income = $232,800
Here we can see that the projected income of the financial advisory consultant is $232,800. This figure is what the consultant can expect to generate in earned income over the coming year if he operates at a similar capacity over the remaining seven months left in the year.
This information will help the consultant determine how much to make in estimated income tax payments for the next seven months, thus avoiding any penalties for tax underpayment. If this were a company comprised of shareholders, this would help investors know what to expect from a company’s operations for the coming year.
Tips for Calculating Annual Income
Tip Number 1:
Instead of projecting income based on all streams of income, the formula can be modified to only project income from certain streams. For example, if an individual works two jobs, typically income from both jobs will be added to determine the earned income value. If the individual wants to know what to expect from only one job, however, the income from the other job can be dropped from the earned income value.
Tip Number 2:
Annual income is an estimation and will not always be the exact amount of money generated in a year. For individuals working jobs on an hourly basis, income will fluctuate over certain months, as holidays, sickness, or other occasions will arise. Similarly, business cycles and fluctuations in demand will cause income for companies to fluctuate over certain months. Therefore, this should be regarded as just an estimation and a general idea of what individuals can expect over the coming year.
Tip Number 3:
Annual income is calculated using only the months within a particular year. While income projections can be derived from income generated in previous years, this is not a calculation for annual income. Additionally, other factors must be accounted for when calculating with income data from previous years, such as inflation and business growth. For this calculation, only use income data from the year of which you are projecting income for.
Takeaways
The annual income calculation is the earned income over the current year multiplied by the ratio of the number of months in a year divided by the number of months during which income data is used from. This information is important for individuals and businesses to build accurate income expectations to make sound financial decisions from.
The earned income value in the formula includes all streams of income – but can be adjusted to only factor for certain streams of income if so desired. Only months within the current year should be used to draw income data from.
Projected income is an estimate and should only be used as such. Income fluctuations can cause this projection to change. To factor for these fluctuations, calculate it over several different points in the year.
