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Each year, most workers must file taxes with the federal government. Depending on where they live, they may need to file with their state government as well.
The ability to offset some of the money you have to pay for taxes is critical to keeping more of what is earned. But how do you do that?
Enter, income tax credits. There are more of them out there than you may think. Here’s a quick overview of income tax credits and how a tax credit differs from a tax deduction.
What is a Tax Credit?
A tax credit should not be confused with a tax deduction. A tax credit is money that you are allowed to directly subtract from the taxes that you owe. A tax deduction allows you to subtract from your overall taxable income.
Both are great for keeping more money in your wallet. Between tax deductions and tax credits, the tax credit is more favorable because it reduces the money coming directly out of your pocket to pay the tax man.
Tax credits come in a wide range of types, and each impacts your overall tax bill a little differently.
Refundable, Nonrefundable, and Partially Refundable Tax Credit
If you are not sure which type of tax credit you qualify for, reviewing the different types of tax credits available may help.
A refundable tax credit is something to aim for because if you qualify, not only does your tax burden disappear, but if it reduces your tax liability to a negative number, you get a refund. The most popular of these is the Earned Income Tax Credit (EITC) and the Premium Tax Credit.
Nonrefundable tax credits remove your tax liability, but unlike the refundable tax credit, if the number goes to a negative number, you do not get the difference refunded. Most tax credits are of this type as opposed to the refundable type.
Partially refundable tax credits only give you refunds up to a certain percentage.
For example, the American Opportunity Tax Credit for college offers up to $2,500 toward your taxes. But, if you do not owe that much in taxes, you can receive some of the leftover money as a refund.
Most Common Tax Credits for 2023
Earned Income Tax Credit
To qualify for the earned income tax credit, you must usually be 19 years of age, have a valid Social Security Number (SSN) and have resided in the US for at least six months.
You cannot claim this if you are listed as a dependent on someone else’s tax return.
The amount you deduct is changed each year to account for inflation. The amount you could get for 2023 generally ranges between $600-$7,430. The amount is affected by your marital status and household size. The IRS offers a free tool to assess whether you qualify.
Lifetime Learning Credit
The Lifetime Learning Credit is similar to the American Opportunity Tax credit in that they both are for furthering education.
However, the Lifetime Learning Credit is available for those who are not necessarily pursuing a degree. You may qualify for as much as $2,000 toward money you have paid for tuition.
American Opportunity Tax Credit
This tax credit is offered for those enrolled in college or technical school, and who plan to attend for at least two or four years.
Your adjusted gross income must typically be $80,000 or less if you are single, and double that if you are married. This tax credit offers up to $2,500 off your taxes each year.
Child and Dependent Care Credit
If you pay for childcare or adult daycare then this tax credit could help to offset the costs. Those workers who must utilize childcare in order to work, or look for work, may be eligible.
If you do qualify you could receive as much as $6,000 off your taxes. This is considered a refundable type of tax credit so even if you do not owe $6,000 in taxes, you could get the difference between what you owe and what you qualify for.
Child Tax Credit
If you have children, the government could give you a credit of $2,000 per child under the age of 17 who still lives at home.
This is a type of partially refundable tax credit, so if you do not owe as much as you qualify for, you only receive a portion of that money as a refund.
Adoption Credit and Adoption Assistance Credit
Adopting a child is often quite costly. The U.S. government offers tax credits to those who have adopted a child, and who have expenses as a result of the adoption process.
The amount you are entitled to is calculated on the IRS site, and can let you know what to expect, and if you qualify.
Residential Energy Credits
If you recently upgraded your home to be more energy efficient then you may be able to enjoy the residential energy credit.
This includes solar panels, geothermal heat pumps, and fuel cells. This tax credit is different from the Energy Efficient Home Improvement credit, which offers up to $3,200 each year for improved upgrades to your home.
Upgrades can include such things as home energy audits, improved exterior doors and windows, and more efficient A/C units.
Why It is Important to Know your Tax Bracket
Understanding what tax bracket you fall into is important because your income stipulates the amount of the tax credit you are eligible for.
New for 2023, tax brackets were increased by 7% to account for inflation. This means that more people than ever could qualify for these tax breaks.
Those who fell into the lower-moderate tax bracket last year may now find themselves falling into the lower tax bracket.
This means more of the income can be deducted from taxation. Not sure what tax bracket you fall into? View the chart on the IRS website.
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