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The tax filing season in the US began on January 23, 2023, and the deadline for most taxpayers to file their federal tax returns is Tuesday, April 18, 2023. Tax credits and tax deductions are two common ways for taxpayers to reduce their tax burden. Although they may seem the same, they are two distinct methods.
Tax credits provide a dollar-for-dollar reduction in your tax liability by immediately reducing the amount of tax you owe, as reported by MARCA on February 14, 2023. For example, if you owe $3,000 in taxes and qualify for a $1,500 tax credit, the credit will reduce your tax liability by $1,500.
On the other hand, tax deductions reduce the portion of your income that is subject to taxes based on the percentage of your highest federal income tax bracket. For instance, according to a report by Investopedia on February 12, 2023, taxpayers who fall into the 22% tax bracket will save $220 if they receive a $1,000 deduction.
While taxpayers usually prefer tax credits because they immediately lower the amount of tax they owe, those who qualify for both tax credits and deductions should do their own calculations to determine which option will save them more money. Ted Jenkin, a member of CNBC’s Financial Advisor Council, explained that tax deductions are more valuable for people in higher tax brackets because they save more on the dollar.