Filing your income tax is something that we all must do. With so many different terms and terminology it is understandable why so many Americans dislike filing their taxes. (besides the fact that some of us have to pay). Two commonly misunderstood terms when it comes to taxes is tax credits vs tax deduction. Both of these terms are very important when it comes to filing your taxes because they are both ways that will impact how much you pay.
Tax deductions are certain items that you are allowed to deduct from your taxable income. An example of a tax deduction would be the educator’s expense. With the educator’s expense, teachers subtract school supplies that they purchased with their own money from their taxable income. When it comes to income terminology don’t get confused. Your income is how much you make before taxes. Your taxable income is the amount that you will pay taxes on after you subtract all of your deductions and credits.
A tax credit is given under certain circumstances. Tax credits are a direct reduction from the amount of money that you owe the IRS. Dollar for dollar you would much rather have a tax credit.
Let’s take for example the first time homebuyers who received the $8,000 tax credit. If the amount of taxes that they owed prior to the tax credit was $800 they would now receive a refund of $7,200. If this was a deduction (which it is not) the homebuyer would pay taxes on $8,000 less of their income. If this person was in the 15% tax bracket they would pay approximately $1,200 less in taxes.
Author: Greg Jackson