Question

Answer the following:

1. Explain the distinction between a deduction and credit.

2. Would you rather have a $10 credit or $10 deduction.

3. Explain the difference between refundable and nonrefundable credits.

Answer 1

Answer 1 :- Let's understand What is a Tax Deduction?

A tax deduction is a result of a tax-deductible expense or exemption which reduces your taxable income. A common tax deduction on your federal income tax return is a personal exemption. An example of how this works: If your income was $50,000 your personal exemption would reduce your taxable income by the 2017 personal exemption of $4,050 so your taxable income would now be $45,950.

Have a look at What is a Tax Credit?

Unlike tax deductions, tax credits are subtracted from your tax liability (not taxable income). A common tax credit is the child tax credit. If you have a qualifying child, you can take a credit of up to $1,000 per child against your tax liability in 2017. If besides the child tax credit, you would otherwise have a total federal income tax liability of $2,500, child tax credit for one child would reduce that tax liability to $1,500.

Answer 2 :- Is a Tax Deduction Better Than a Tax Credit? Is a Tax Credit Better Than a Tax Deduction?

If you were ever faced with a hypothetical choice between a $10 tax deduction and a $10 tax credit, you would want the credit. Unlike a tax deduction, a $10 tax credit reduces your tax dollar-for-dollar ($10). On the other hand, a tax deduction reduces your taxable income by $10. The resulting amount of tax you save depends on your marginal tax bracket (in everyday language: your tax bracket). If you are in the 25% tax bracket in 2017, a $10 tax deduction reduces your taxes by $2.5.

Answer 3 :- What is Refundable Tax Credits?

Refundable credits are the most versatile type of tax credit. These credits are treated just like tax payments that you make to the IRS, such as income taxes withheld from your paycheck or estimated tax payments that you make throughout the year. In other words, a refundable credit is subtracted from the amount of taxes you owe (after deductions), similar to the way the tax withheld from your paycheck is subtracted from your total yearly tax liability.

A refundable tax credit is particularly advantageous because it can reduce your tax liability to below zero. If the amount of a refundable tax credit is more than the amount of taxes due, the difference will be given back to you as a tax refund. If you are already owed a tax refund, the refundable credit will be added to increase the amount of your refund.

Here are some examples of refundable tax credits:

• Additional Child Tax Credit
• Earned Income Tax Credit (EITC)
• Health Coverage Tax Credit
• Small Business Health Care Tax Credit

What is Non-Refundable Tax Credits?

Nonrefundable credits are another great way to decrease your tax bill. A nonrefundable credit is subtracted from your income tax liability, up to the total amount you owe. But unlike a refundable tax credit, a nonrefundable credit cannot reduce your tax balance beyond zero. Any unused portion of a nonrefundable tax credit will expire in the year the credit is claimed and cannot be carried over.

Some examples of nonrefundable tax credits include:

• Child Tax Credit
• Adoption Tax Credit
• Mortgage Interest Tax Credit
• Foreign Tax Credit