Tax Credits

What are tax credits? How can tax credits impact your taxes? What are some examples of tax credits? How do you know if you qualify for a tax credit?

To understand a tax credit, you must first understand what a tax is. A tax is a levy or fee that is deducted from your income and is paid to the government such as the federal government or the state government. Taxes are used to fund government services such as upkeep of roads, and police and firemen. A tax credit is the amount that is subtracted from the sum of taxes that you owe to the government. In other words a tax credit is a reduction in the amount of taxes that you must pay the government. In some cases if a person’s tax credits exceed the amount of taxes he or she owes and has paid over the course of a year, then the person may be entitled to a tax refund. A tax refund is when a person receives taxes that he or she has paid over the course of a year back, hence the name tax refund.

Another way to illustrate tax credits is to use a real life example. Let’s say that Bob has earned over $100,000 this year and owes $2,000 in taxes at the end of the year. Bob is married to Anna and has two children, John and Sara in school. Bob helps support his wife and two kids and he is the head of the household. At the end of the year Bob has earned $1,500 in tax credits because he is supporting his family. Bob only owes $500 in taxes at the end of the year because of the $1,500 he has earned in tax credits. As you can see from the example a tax credit reduces the amount of taxes that a person owes at the end of the year.

An example that illustrates how a tax credit can lead to a tax refund is the following. Michael has earned $60,000 this year. His wife Alyssa has earned $30,000 this year. They have a daughter Jenna in middle school. Together Michael and Alyssa have earned $3,000 in tax credits this year. They currently owe $2,000 in taxes at the end of the year. $3,000 subtracted from $2,000 is -$1,000 which means that Alyssa and Michael would get a refund of $1,000 at the end of the year as long as they have paid at least $1,000 or more in taxes over the course of a year. When the amount of tax credits exceed the amount of taxes that are owed at the end of the year a tax refund is given to a certain limit as long as taxes were deducted from the person(s) receiving the refund throughout the year.

So what are some common examples of tax credits? There are tax credits for parents who have children that are dependent on them. There are also tax credits for college tuition and expenses, purchasing a home for the first time and having a mortgage on a home. There is also tax credits for elderly and disabled people, and people who have low incomes. There are even tax credits for businesses such as the renewable energy tax credit and the work opportunity tax credit.

How do you know if you qualify for a tax credit? The only way to know for sure if you qualify for any tax credits is to seek a licensed tax professional. Tax codes vary from country to country and even from state to state and some cities may have their own taxes as well. A licensed tax professional will know the laws in his area and will help you determine if you qualify for any tax credits. To summarize a tax credit will reduce the amount taxes that a person owes or may lead to a tax refund.