What’s a tax credit (and how does it work)?

Taxes

October 17, 2022

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A tax credit is a dollar amount that can be subtracted directly from the taxes you owe. You might also call it a tax break. Either way, a tax credit reduces your amount owed, dollar-for-dollar. Most credits exist to cover various yearly expenses, like childcare or education. Depending on the expense, there are certain requirements to fulfill before you can claim a tax credit that covers it.

What are the different types of tax credits?

There are a whole slew of tax credits available for all kinds of taxpayers. Some are refundable, some are non-refundable, some are partially refundable.
  • If a refundable tax credit is more than your amount owed in taxes, you will pay nothing and the government will pay you the difference.
  • If a non-refundable tax credit is more than your amount owed in taxes, you will pay nothing and will not receive the difference.
  • Partially refundable tax credits are rare. Some tax credits, like the AOTC, have refunds based on the total amount of taxes you owe.

So, how do you know which ones are available for you? The IRS has a complete list of available credits (and deductions – we’ll get to that in a minute).

Will a tax credit give me money?

Here’s the burning question – how much is a tax credit worth? And do you get money from it? In short, a tax credit will reduce your total amount owed in taxes.

Sometimes – like with a refundable or partially refundable tax credit – this results in a check from the government. In that case, yes, you get money from it. Some credits simply eliminate your debt. Some credits reduce the amount you have to pay.

How is a tax credit different than a deduction?

The difference between a credit and a deduction is subtle.

  • A tax credit reduces your total amount owed in taxes. If you have a credit of $500, your taxes will be lowered by $500.
  • A tax deduction makes it so that less of your income is subject to taxes. Your taxable income is lowered by the percentage of your federal tax bracket. If you’re in the 12% bracket, a $1,000 deduction will take $120 off your amount owed in taxes.
A tax credit can reduce the amount total amount of taxes owed, resulting in a larger refund. A tax deduction can make part of your income untaxable, but cannot directly increase your refund.

Which tax credits can I claim?

It varies from person to person. Some of the more popular credits are:

There are several tax credits that you might qualify for – giving you a bigger, better refund. The best way to get the most out of every possible credit? Talk to a dedicated tax pro. At World, our tax pros work year round so that come tax season, they are prepared to help you get the most out of your tax credits – and your tax refund.