The Difference between a Tax Deduction and a Tax Credit?

With tax time approaching quickly, it's important to know the difference between a tax credit and a tax deduction. Here is a quick explanation from Paul Shoopman Home Builders about how this works.

A TAX DEDUCTION reduces your taxable income. Let's say you have an income of 60,000.00 and are in the 25% tax bracket and you get an 8,000.00 tax deduction that would reduce your taxable income to 52,000.00. So take the 25% x your 8,000.00 deduction and you would save 2,000.00 in taxes. Of course there are factors that can raise or lower this, if you drop out of a bracket, etc. However, for our purposes today, this is accurate enough. A TAX CREDIT, like the one involved in the new bill for anyone purchasing a home this colander year is much different. It is a ONE to ONE write off. For instance if you would owe or have withholdings of 5,000.00 in Federal Income Taxes for 2009, you would be able to take your 8,000.00 tax credit against those dollars on a one to one basis. This means that not only do you not pay ANY of the 5,000.00 Federal Tax Bill, you would get an additional 3,000.00 back in taxes, or an 8,000.00 refund. If you had a tax liability of 10,000.00 in Federal Tax, you would apply the 8,000.00 credit against it and only owe 2,000.00. If that 10,000.00 was withheld, you would get a refund of 8,000.00.