Tax Credits and Tax Deductions

Tax Credits

Tax credits are deducted dollar for dollar from your tax liability and are therefore seen to be more favorable than tax deductions. Some credits are refundable and so when a taxpayer’s liability is reduced to zero, any excess at that credit will become refundable to the taxpayer. Examples of refundable credits are: Earned Income Tax Credit (EITC), Additional Child Tax Credit and Education Credit.

Some credits are nonrefundable, so they may be used to reduce a tax liability down to zero, but after that, any excess credit will be lost. Examples of nonrefundable credits are Child Tax Credit and Savers Credit.

Tax Deductions

Tax deductions lower your tax liability by lowering your taxable income. These deductions are eligible expenses that are incurred by a taxpayer and can be used to reduce gross income and therefore ultimately reduce the amount of tax that is payable. A taxpayer may choose to itemize his deductions, and if this amount is larger than the standard deduction, then it’s more beneficial for the taxpayer to claim the itemized deduction to further reduce his tax liability.