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What is a federal tax credit? Get to know how it works, what makes it different from deductions



Tax season is upon us. For some, it may be your first time filing. And even for those who have filed for years, taxes are not the easiest task to tackle.

From credits to deductions, tax terminology can be confusing. So, here’s what you should know about tax credits, what they are, how they work, and what makes them different from deductions.

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What is a federal tax credit?

Broadly speaking, a tax credit is the dollar-for-dollar amount of money that taxpayers subtract directly from the income taxes they owe. There are different types of tax credits, including:

  • Nonrefundable

  • Refundable

  • Partially refundable

Both federal and state governments give tax credits, such as the Child Tax Credit or Lifetime Learning Credit, in order to sustain and benefit the economy. A federal tax credit is granted by the federal government.

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Tax credit v. tax deduction

While they may appear similar, tax credits and tax deductions are two separate things.

A tax credit refers to the specific amount taken away from what a person owes. For example, if you receive a tax credit of $2,000 on a $4,500 tax bill, it would be reduced to $2,500.

On the other hand, a tax deduction reduces the amount of your income that is taxed. For example, let’s say you have a taxable income of $60,000 and you receive $10,000 in deductions. This would reduce your taxable income to $50,000..

The main difference is tax credits impact the total tax, while deductions only affect the amount of your income that is subject to tax.

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  • The Inflation Reduction Act carves out an EV tax credit for 2023. Does Tesla qualify?

This article originally appeared on USA TODAY: What is a federal tax credit? Understanding how this deduction works

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