what is a tax credit 
the term tax credit refers to an amount of money that taxpayers can subtract directly from the taxes they owe this is different from tax deductions which lower the amount of an individual s taxable income the value of a tax credit depends on the nature of the credit certain types of tax credits are granted to individuals or businesses in specific locations classifications or industries investopedia jake shiunderstanding tax creditsfederal and state governments may grant tax credits to promote specific behaviors that benefit the economy the environment or anything else that the government deems important 4for example a tax credit is available that rewards people for installing solar panels for home use other tax credits help offset the costs of child and dependent care education and adoption 5tax credits are more favorable than tax deductions because tax credits reduce tax liability dollar for dollar while a deduction still reduces the final tax liability it only does so within an individual s marginal tax rate 16an individual in a 22 tax bracket for example would save 0 22 for every marginal tax dollar deducted however a credit would reduce the tax liability by the full 1 types of tax creditsthere are three categories of tax credits nonrefundable refundable and partially refundable nonrefundable tax credits are amounts directly deducted from an individual s tax liability until the tax due equals 0 any amount greater than the tax owed which normally results in a refund for the taxpayer is not paid out as a refund hence the term nonrefundable in effect the remaining part of a nonrefundable tax credit that can t be utilized is lost 3nonrefundable tax credits are valid in the year of reporting only expire after the return is filed and may not be carried over to future years 7 because of this nonrefundable tax credits can negatively impact low income taxpayers as they are often unable to use the entire amount of the credit for the 2022 tax year specific examples of nonrefundable tax credits include the 78refundable tax credits are the most beneficial credit because they re paid out in full this means that a taxpayer regardless of their income or tax liability is entitled to the entire amount of the credit beyond a zero amount of tax due so for example if the refundable tax credit reduces the tax liability to below 0 then the taxpayer is due a refund of that specific amount 3one of the most popular refundable tax credits is probably the earned income tax credit eitc the eitc is for low to moderate income taxpayers who earn income through an employer or by working as a self employed individual and meet certain criteria based on income and number of family members 1011the premium tax credit is also refundable it helps individuals and families cover the cost of premiums for health insurance purchased through the health insurance marketplace 12some tax credits are only partially refundable one example is the american opportunity tax credit aotc for postsecondary education students if a taxpayer reduces their tax liability to 0 before using the entire portion of the 2 500 tax deduction the remainder may be taken as a refundable credit up to the lesser of 40 of the remaining credit or 1 000 13the child tax credit was a partially refundable credit but became refundable up to 1 500 in 2022 and 1 600 in 2023 as a result of the tax cuts and jobs act tcja 1415 if a taxpayer had a large enough tax liability the full amount of the child tax credit was 2 000 16this credit increased and became fully refundable as part of the american rescue plan for tax years 2020 and 2021 162021 american rescue plan changesin march 2021 congress passed the american rescue plan which was signed into law by president biden under the plan eligible individuals received up to 1 400 in stimulus checks in addition certain temporary changes were made to the child tax credit for married couples filing jointly with a modified adjusted gross income magi up to 150 000 heads of household with magi up to 112 500 or single filers with magi up to 75 000 17changes were also made to the eitc originally capped at 543 for childless households the maximum earned income tax credit for those same households was 560 for 2022 and 600 for 2023 2122 the bill also expanded eligibility for childless households previously people under the age of 25 and over the age of 65 could not claim the credit the upper limit was eliminated and the lower limit was reduced to 19 i e anyone 19 or older without a child who meets income requirements can claim the eitc 23note a few exceptions students ages 19 to 24 with at least half a full time course load are ineligible former foster children or youths experiencing homelessness can claim the credit as 18 year olds the phaseout percentage was increased to 15 3 for single filers and phaseout amounts were increased to 11 610 24the two eitc changes below are permanent except where noted the american rescue plan measures above including child and child dependent care credits were temporary and applied only to 2021 they revert to their previous forms for 2022 and beyond 27example of a tax creditlet s say that you ve done your calculations and find that you owe the government a 2 000 tax payment for the year but your tax advisor calls with good news you re eligible for a 2 500 refundable tax credit this means that not only will your tax liability be eliminated but you ll also receive a 500 refund 