When it comes to taxes, many people get confused about the difference between a tax credit and a tax deduction. While they may seem similar, they actually have different effects on your tax bill.
What Is A Tax Credit?
A tax credit is a dollar-for-dollar reduction of your tax liability. This means that if you are eligible for a $1,000 credit, it will reduce your tax bill by $1,000. Tax credits can be refundable or non-refundable. A refundable credit can be claimed even if you owe no taxes, and the government will issue a refund to you. Non-refundable credit can only reduce your tax liability to zero, any unused credit will be lost.
What Is A Tax Deduction?
A tax deduction reduces your taxable income. This means that if you are eligible for a $1,000 deduction, it will lower your taxable income by $1,000. Tax deductions can be either above-the-line or below-the-line. Above-the-line deductions reduce your AGI (Adjusted Gross Income) and you can claim them whether or not you itemize your deductions, below-the-line deductions are those you claim only if you itemize.
Which Is Better?
It depends on your individual situation. Tax credits can have a bigger impact on your tax bill, but deductions can also be beneficial, particularly if you’re in a high tax bracket.
Remember, always consult a tax professional for personalized advice and make sure to stay up to date with any changes to tax laws.
If you are still confused on the differences between a tax credit and a reduction, reach out to us!