Tax Credit Vs Tax Deduction
Posted by Tax Man - 20/06/10 at 11:06 amTax Credit Vs Tax Deduction. Before we touch on their differences, let us discuss about what they actually are. Both tax credit and tax deduction have one purpose, which is to decrease the amount of tax owed to the IRS.Tax credit and tax deduction differ in various ways. They differ in the way they are calculated, the affect on the over all tax payable, filing and reporting, and the eligibility of the tax payers.
How do tax credit and tax deduction reduce taxes?
The amount of tax reduction is where the main difference of tax credit and tax deduction lies. Your taxes gets more reduction with a tax credit simply because it is directly subtracted from your taxes. It is also known as “below-the-line” item. There would be a lesser reduction on a tax deduction just because it affext only the tax payer’s gross taxable income. Items included in a tax deduction are called above the line.
Reporting and Calculation of Tax Credit And Tax Deduction.
A tax credit is a direct percentage of an expense. Deductions, on the other hand, are total reductions against your taxable income. You calculate tax credit using a tax form like the Retirement Savings Contribution Credit. Here you will need to make use of the IRS Form 8880 for you to get to claim the credit. Documents in the form of worksheets are used to calculate tax deduction and the amount would be subtracted from your taxable income.
In reporting both tax credit and tax deduction, one would use the IRS form 1040. You would file deductions within Schedule A while tax credits will be reported under more specific tax credit forms. If you have different tax credits to report, then they should be filed under each corresponding forms. Unlike tax deductions where they all will be recorded in the Schedule A form.
Who qualifies for tax credits or tax deductions?
There are different kinds of tax credits. So the eligibility of a tax payer is dependent on the tax credit one is applying for. A good example would be the first time home buyer tax credit. If you are single with a yearly income of less than ninety five thousand dollars or if you are married and you and your spouse makes less than $150 Thousand a year, then you are eligible for the full tax credit of 2009. . This limit is usually based on one’s modified adjusted gross yearly income. In order to claim this credit you would need to fill up the IRS Form 8839, which is attached to the IRS Form 1040.
Tax deductions are more general. They usually cover standard expenses such as interests on debt or mortgages, accidents, casualty, loss incurred due to theft, expenses on education and many more. It is so much easier to be eligible for tax deduction than tax credits since tax credits cover more specific criteria to qualify. Another difference is that tax deductions is determinant of the tax you owe the government. Tax credits on the other hand are usually used by the government as stimulus programs. A good example of this would be the first time home buyer tax credit. Tax credit is granted to home buyers who would not be able to afford to buy a home if not for the credit provided.
