In plain English
It flows into retained earnings at the end of the period.
It is not the same as cash in the bank.
Why it matters
Net income is the figure most people mean when they ask whether the business made money. It is the number that feeds your tax return, the bottom line a lender looks at, and the amount added to the owners' equity at year end. If expenses are miscoded or missing, this one number absorbs every error.
It is also easy to misuse. Owners sometimes spend based on net income without noticing that much of it is tied up in unpaid invoices or stock.
Worked example
Revenue $200,000 less all costs of $176,000 is $24,000 of net income, a 12% net margin.
How to handle it
- Run the profit and loss for the period and note the bottom line.
- Check that owner draws, loan principal and transfers between your own accounts are not sitting in expense lines.
- Compare net income to the change in cash for the same period and list the reasons they differ.
- Track it month by month on a simple chart or spreadsheet so you can see seasonality.
Common mistakes
- Treating net income as spendable cash, which can lead to a shortfall when bills come due.
- Comparing a cash basis report one year to an accrual basis report the next, which makes the change meaningless.
- Ignoring a large one-time gain or loss, which makes the year look much better or worse than normal operations.
Not the same as: Gross profit
Gross profit only subtracts the direct cost of what you sold. Net income subtracts everything, including rent, payroll, interest and other overhead. See Gross profit.
Go deeper
- Closing Entries and Retained Earnings Explained: How the year-end close resets income and expense accounts to zero, rolls profit into retained earnings, and what to watch if numbers look wrong.
Try it
Related terms
- Net margin: Net income as a percentage of revenue.
- Operating expenses: The regular costs of running a business that are not part of cost of goods sold.
- Materiality: The size at which an error or omission would change a reader's decisions.
Common questions
What is net income?
What is left of revenue after all expenses, including cost of goods sold and taxes where recorded.
Can you give an example of net income?
Revenue $200,000 less all costs of $176,000 is $24,000 of net income, a 12% net margin.
Is net income the same as taxable income?
Not always. Some items are treated differently for tax purposes than in your books. Your accountant reconciles book income to taxable income when preparing the return.
Can a business have negative net income and still be fine?
For a short time, yes, especially during a startup phase or a planned investment. A long run of losses, though, eats into equity and usually needs a plan.
General information, not tax, legal or accounting advice. Confirm rules with the IRS, the NJ Division of Taxation or a licensed professional.