The difference between a tax deduction and a tax credit
Tax deductions: Deductions allow filers to reduce their eligible income before calculating the tax liability. Reducing the amount of qualifying income helps to reduce how much tax you are required to pay.
Out-of-pocket expenses for charity work can be claimed as a tax deductible, saving the cost of cupcake ingredients for example.
Tax credits: In contrast, credits are solely used to reduce your eventual tax liability. Once your tax balance has been calculated credits subtract a set dollar amount from your outstanding balance, which reduces your bill or increases your refund.
One of the most notable examples relates to electric cars. The tax credit can claim back thousands of dollars if people purchase a new plug-in electric vehicle (EV) or fuel cell vehicle (FCV) from 2023 onwards. The credit can be worth up to $7,500.
Tax credits are regarded to be better than deductions as credits reduce your bill by dollars rather than your taxable income.
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