Effective tax planning means taking advantage of every credit and deduction you qualify for, reducing your liability at the end of the year. While the terms “deduction” and “tax credit” are often used interchangeably, there are actually important differences in how they lower your tax exposure. Understanding these differences is the key to maximizing their benefits and limiting your tax bill.

The Difference Between Tax Credits & Deductions

What Is a Tax Deduction?

Tax deductions lower the amount of income subject to taxation, indirectly reducing what you owe. For instance, if you earned $50,000 and claimed a deduction worth $1,000, you’ll only be taxed on $49,000 of income. With current marginal tax rates of 22%, this deduction could shave $220 off your tax bill. While this may not seem like much, claiming every deduction that’s legally available could save you thousands of dollars every year. Business expenses, some home mortgage interest, child care costs, and a wide range of other everyday purchases may qualify as tax deductions, and working with a tax planning professional will help you explore every option possible.

Understanding Tax Credits

Unlike deductions, a tax credit comes directly off the taxes you owe, not your income. For instance, if you owe $5,000 in taxes at the end of the year and qualify for a $1,000 credit, your liability will drop to $4,000. Some tax credits are even refundable, with the balance refunded to you if the credit exceeds your taxes due. So, if you qualify for that $1,000 refundable credit but only owe $350 in taxes, you’ll get a refund of $650 at the end of the year.

Tax planning is confusing and stressful, especially when factoring in any changes to the code. Fortunately, the professionals at Wilson, Rea, Beckel & Associates CPAs LLC in Archuleta County, CO, have the expertise and comprehensive range of services to guide you through the system and ensure you get every credit and deduction you deserve. Visit their website for more on their tax planning services, follow their Facebook for more tips and advice, or call (970) 731-1040 for your free consultation today.