How to calculate tax credit

Taxpayers often use the terms "deduction" and "credit" as though they're the same thing, but they're not. They're actually very different terms, and being aware of the distinctions between the two can help you make good choices at tax time -- and maybe put some extra money back in your pocket.

A deduction is a reduction in your taxable income, while a credit is a reduction in your taxes due.
Deductions are calculated as part of your taxable income (you'll find taxable income on line 43 on your form 1040). They are subtracted from gross income, including wages, interest and dividends, and may be even be listed on a separate form, such as a Schedule A.

The tentative tax due is calculated from your taxable income. Credits are applied to that tentative tax and reduce the overall tax due on a dollar for dollar basis.

It's best explained with an example. Let's say you're a single taxpayer with adjusted gross income of $20,000 after your standard deduction. The tax on $20,000 is $2,582.50 (using the tax brackets, that's $835 plus 15% of the amount over $8,350). An additional $500 in deductions would result in tax due of $2,507.50

But what if, instead of deductions, you had additional credits of $500? The $500 credit would reduce that tax, dollar for dollar, to $2,082.50.

In this example, opting for the credit over the deduction resulted in a tax savings of $425. So when all else is equal, it's generally more favorable to take advantage of a credit than a deduction. This is good to know when faced with the option of claiming a deduction or a credit when both may not be allowed -- educational expenses are a good example.

Credits may also be refundable, which means that to the extent you have more credits available than tax owed, you can receive a refund. Deductions are never refundable, since it's a reduction in your income, and reducing your taxable income below zero does not result in an additional refund.

Remember: A credit is a dollar for dollar reduction in your tax due. To the extent you can maximize those credits, your overall tax burden will be reduced -- and you might even be getting some money back.

Tax Reform Changes That Impact Your 2018 Taxes

With all of the buzz about the new Tax Reform many taxpayers are questioning how this will affect their 2018 tax return. These provisions kicked in on January 1, 2018, which means that they will impact your 2018 tax return.

Read More

Brought to you by TurboTax.com

2018 Tax Reform Impact: What You Should Know

Congress has passed the largest piece of tax reform legislation in more than three decades. The bill went into place on January 1, 2018, which means that it will affect the taxes of most taxpayers for the 2018 tax year.

Read More

Brought to you by TurboTax.com

Video: What Are Income Taxes?

Income taxes are a percentage of money that you pay to the government based on every dollar of taxable income. Learn about income taxes with help from TurboTax in this video on tax tips.

Read More

Brought to you by TurboTax.com

Rules for Claiming a Dependent on Your Tax Return

Claiming dependents can help you save thousands of dollars on your taxes. Yet many of us are not aware of who in our family may qualify as our dependent. Review the rules for claiming dependents here for a qualifying child or relative.

Read More

Brought to you by TurboTax.com
Read Full Story