Difference Between Income and Profit

Edited by Diffzy | Updated on: October 05, 2022

       

Difference Between Income and Profit Difference Between Income and Profit

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What is an Earning?

Suppose you go to a shop and buy yourself a pair of shorts. You pay the money to the shopkeeper and are now happy with your shorts while the shopkeeper is happy with his money. That money was his earning. He worked for that money and he now has the right to that money. But this is not where it ends. The shopkeeper will need to buy more goods, for that he will have to use the money he earns and then whatever is left of that money will be his final profit.

But then what about the earnings of someone who isn’t a shopkeeper? Let’s say a doctor. How do they earn? Well of course they work and sweat for the money that they have but what are the income and the profit and the final results? Their income is what they get from the hospital for their hard work and patience, and the profit is the money that they have left after paying their bills and buying their groceries. Make sense?

Profit vs. Income

Profit is the amount after the subtraction of all the revenues and the difference between the total money spent and the total money earned in a given period of time. Income is the subtraction of all the additional expenses, due to the business, with the total earnings and it is the total money earned in the given time period. Profit is used to calculate the total taxes that a company has to pay regarding how much its earnings are and it can also find out about the performance of the company in the market. Income tells the total money that the company can spend on the resources and also calculates the value of the shares of the company. Profits can be calculated multiple times a year in order to check the status of the company, whether it’s growing or whether it's leaning toward a loss. But income is generally calculated only once a year and it is the only factor that decides if the company should reinvest the money or keep it as a savings. Profit is dependent on revenue but income is dependent on both profit and revenue.

What is an Income?

When you are being paid for some work that you did, it is your income. It is the hard-earned money of a person for which they work on a regular basis. Although there is not one specific definition of income, it is however the saving and spending opportunity an individual gains within a specified time phrase to make use of his labor and is generally expressed in monetary terms. The definition of the income of a person can be different in different fields of work it is not the same for everyone.

Haig – Simons income, defines it as Consumption + Change in net worth and it is widely used in economics calculations.

In today’s world, we have income in the form of money. The money that we use today originated through a slow and gradual process. The early men, also commonly referred to as the cave men, used to give away the hunted animals in exchange for a favor, as they did not have any other means to pay and it seems relatable. Their only basic requirement was food and they had plenty of it in the form of all and every wild animal in the jungles. Later in the days when civilizations were built across the globe, there came a need for the greater exchange of items. They did not require animals anymore, well not the dead animals anyway. What these people needed was a specific system where they exchanged the goods, also generally referred to as the Barter system, where the goods are exchanged. Like our mothers often do with our neighbors, she borrows sugar they will also make sure to borrow sugar from us. That is the simplest form of a barter system, but in the part, it was extravagant and humungous. Like in exchange for rice they would have to pay with either spices or some other necessities that they required. We have also heard of the barter system in the medieval age, but by the time the kingdoms have formally established gold and silver began gaining importance. They were expensive and made everyone look rich. The more gold you had in your possession, the richer you are. Thus, the kings used the gold, silver, and bronze coins and it is no surprise that gold was like a two thousand rupee note and silver was your five hundred rupee note and bronze was like your ten-twenty or fifty rupee note. In exchange for the goods, they now offered the coins. Worldwide this process was practiced, gold is important, no matter what country you belong to. But as almost everyone knows that paper was first invented in China, it is also a given that it was the Chinese who used the paper currency first. And because half of the world was serving as a colony to the British empire, they imposed the paper currency and slowly replaced the gold, silver, and bronze coins with paper on which money was printed. It was easy to carry, lightweight and you can carry as much cash as you can. The evolution of everything in history is as interesting as that of the barter system from coins to paper currency. Oh, and did you know that in the old times, some of them also traded women for favors? It sounds terrible, well it is terrible but they disguised it in the name of arranged marriage and lifelong suffering for the women.

But, coming back to income, because we seemed to have strayed a little too far from the topic, individuals generally review the gross income to be equal to the total of their earnings (wages or salaries), the return on their investments, and also the property sales and other receipts. Thus their net income is equal to the gross income minus the cost it took to generate that income.

The word income is derived from an Old Norse word, ‘Innkoma’, meaning entrance or arrival. In a sense where when a person is earning, the money comes or arrives as a result of their hard work.

Taxable income is the money that is derived from any form of source minus the allowable deduction, it is the money that is subjected to income taxes. Ordinary income, as the name suggests is the most basic form of earning through working, the income that we work after doing some or any form of work. Capital gain is the total profit earned after the selling of an asset. Tax-exempt income as the name itself tells us is a form of income that is free from all the taxes at the state, federal or local level.

What is Profit?

Profit just like the income has a different meaning for different professions. In simple terms, it means the gain after an investment or a business done after subtracting all the extra cost that was spent from the pocket. In economics, profit is referred to as the final sum received by a businessman after adding all factors of production to give the general services to an individual.

In general, profit is the award that we get for all the hard work that we have done. When a shopkeeper buys things, he buys them from the seller directly in a large number, thus the price at which he gets the same things is lesser than the price at which he sells them to the general public. Confusing? Let us think of ourselves as the shopkeeper, now as a shopkeeper, we need to restock our shop, we contact the dealers and buy hundreds of t-shirts in different colors and sizes but t-shirts nonetheless. So because we bought the t-shirt in a bulk and from the retailer himself, we get them at a comparatively lower price, say 100 rupees for every t-shirt. But when we will be selling the t-shirt, we will sell it for a much higher cost, it also depends on the brand, but we will not sell the t-shirt for the same price as we bought it. In the process, there would be taxes and everything else. So the profit will be the cost of the t-shirt at which we sold it minus every other cost which allowed the t-shirt to reach us (taxes, delivery cost, etc.).

The profit is further classified into two broad categories :

  1. Accounting Profit
  2. Economic Profit

What is Accounting Profit?

Accounting profit = TR – (W + R+ I +M) = TR – Explicit Costs

TR = total revenue collected;

W = wages and salaries;

R = rent;

I = interest;

M = costs of materials

An accounting profit is used to signify the financial stability of a company and to find out the taxable income of the given organization. Accounting profit is also commonly known as gross profit thus, when depreciation and governmental taxes are reduced from the gross profit we get the net profit. Accounting profit also refers to the total income of an organization. It is the profit that is regulated as per Generally Accepted Accounting Principles (GAAP).

What is an Economic Profit?

Economic profit = total revenue – (explicit costs + implicit costs)

It is the profit that is determined by the principles of economics. As given in the equation above an economic profit includes explicit costs, out of pocket costs, and implicit costs, opportunity costs of pre owned resources. Unlike the accounting profit, it is not always said to be positive, it can be negative which leads to an economic loss by the organization.

Economic profit = accounting profit – (opportunity cost + unauthorized payments)

According to an American economist, professor, F.A. Walker, “as rent is the difference between least and most fertile land, similarly profit is the difference between earnings of the least and the most efficient entrepreneurs,” is the rent theory of profit. However, the theory was not very acceptable as it failed to provide the actual working of profit.

An American economist, J.B Clark proposed that profit does not arise in a static economy but arises in a dynamic economy. He believed that only normal profits can be earned in a static economy because it does not include any risks. Whereas, the dynamic economy allows the businessman to make profits of his own.

The risk theory propounded by F.B. Hawley states, “profit is the reward of risk taking in a business. During the conduct of any business activity, all other factors of production i.e. land, labor, and capital have guaranteed incomes from the entrepreneur. They are least concerned whether the entrepreneur makes the profit or undergoes losses.” In simpler words, he stated that profit was the reward for taking risks.

Knight’s theory stated that risk was not what was giving us the rewards, according to him it was the uncertainty that comes with the risk that gave us the desired rewards. He believed that it was easy to take risks as it was already known, which is right! We already know what is risky and what isn’t, bungee jumping is risky, and eating potatoes is not. However, the anticipation of the result after the risk-taking was what bore us the rewards.

Joseph Schumpeter’s innovation theory stated that profits are the rewards for innovations, where innovation is the introduction of a new product, technology, method of production, and new resources of raw materials which helps in lowering the cost and improving the cost of production.

Difference Between Profit and Income in Tabular Form

Table: Profit vs. Income
Properties
Income
Profit
Definition
The money earned by any businessman after selling the products or services. It is also known as the money earned after labor.
The amount left with an individual after the subtraction of all the basic costs such as the expenses, taxes, or any other overhead charges.
Types
Earned and unearned.
Gross profit or net profit.
Uses
Important in calculating the value of shares.
Important for calculating the taxes and profitability.
Dependency
Revenue and profit.
Revenue only.
Formula
All the money earned by an individual.
Revenue – expenses and losses.

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"Difference Between Income and Profit." Diffzy.com, 2022. Sun. 27 Nov. 2022. <https://www.diffzy.com/article/difference-between-income-and-profit-551>.



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