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Tax Showdown: Credit vs Deduction

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Tax Showdown: Credit vs Deduction

We’re all looking to save an extra penny whenever we can, but it can seem too complicated to save anything when it comes to the Internal Revenue Service and taxes. It turns out there are ways to save on taxes, and some of the most important ones are taking a tax deduction and claiming tax credits. Freelancers, gig workers and all self-employed people can claim tax deductions for things like business meals, home office supplies and even cell phone expenses. You also might be eligible for some tax credits, which will lower your tax bill if you qualify. As with anything IRS-related, there are certain requirements one needs to fulfill. Using tax credits or taking a tax deduction when you don’t qualify could result in some hefty IRS penalties. But no need to worry. You’ll learn everything you need to know about the difference between tax credit and tax deduction and be the winner in the credit vs deduction showdown.

Table of contents

What is a tax deduction?...Read more

How do tax deductions work?...Read more

What counts as a deduction?...Read more

How do tax credits work?...Read more

How to reduce taxable income?...Read more

What is tax liability?...Read more

What is a tax deduction?

A tax deduction is a dollar amount you can subtract from your taxable income to reduce the amount of money you’ll owe in taxes. If you get confused between a deduction vs credit, just remember that a deduction goes hand in hand with subtraction. You can deduct things like retirement plans, interest and home office expenses. But those are just a fraction of the deduction possibilities. Taking deductions on your tax return helps lower your taxes and save you money. The two types of deductions are standard deductions and itemized deductions.
Image describing types of tax deductions - Standard (fixed amount) & Itemized (list of eligible deductions subtracted from taxable income). Relevant for self-employed, 1099, freelancer, taxes.

Standard deduction

Itemized deductions

How do tax deductions work?

When filling out your tax return, you'll need to pick either the standard deduction or the itemized deduction option. Once you calculate your deductible amount, you'll apply this amount towards your income, lowering your income by the deducted amount. This will lower your income, so you owe fewer taxes.

What counts as a deduction?

The list is pretty extensive when it comes to the types of deductions you can make. If you're a freelancer, gig worker or self-employed person, there are some important deductions to keep in mind when it comes time to file your taxes.

Home office and home improvement deductions

Food and entertainment

Travel

Charitable contributions

Health insurance

How do tax credits work?

If there’s one important tax question to answer, it’s how does tax credit work? First, we need to understand tax credits. Tax credits are essentially a decrease in your tax bill. So if you receive a $2,000 credit, your tax bill decreases by $2,000. Unlike a deduction, tax credits reduce the amount of taxes you’ll owe, making them the more favorable option. The credit value depends on the type of credit.
Image describing three types of tax credits - refundable, partially refundable and nonrefundable. Refundable credits give a refund if credit amount is larger than owed taxes. Nonrefundable credits only reduce tax liability to zero. No refund is issued for partially refundable credits.
With a bit of research, you can score a bunch of tax credits from the IRS. Some tax credits you might be eligible for include the Child Tax Credit, Earned Income Credit, Education Tax Credit, Recovery Rebate Credit or the EV Tax Credit. You’ll need to check the eligibility requirements to see if you qualify for any of the tax credits.

How to reduce taxable income?

In a tax savings battle, credit vs deduction, there really is no clear winner as it depends on your individual tax circumstances. But it’s worth noting that tax credits generally save you more in taxes than deductions. Tax credits will directly reduce the amount of taxes you owe. In addition to claiming tax credits to reduce your taxable income, there are a few other ways to save money.

Open an HSA account

Deduct student loan interest

Sell underperforming stocks

What is tax liability?

Tax liability is a fancy way of saying the payment owed by an individual or business to a local, state or federal tax authority. Essentially it’s the amount of taxes you owe. It’s the total amount of money you’re required to pay from income like salary, lottery winnings, investments, interest etc.

Recovery Rebate Credit

The Recovery Rebate Credit is like a back payment if you didn’t receive your COVID-19 stimulus check or got a less-than-full amount. It’s here to support Americans in times of crisis.

Education Credit

the IRS offers students and their parents tax benefits like the American Opportunity Credit to ease the burden of several expenses specific to college students.

Child Tax Credit

Understanding the Child Tax Credit to help offset the costs of raising a child. Parents are eligible to receive a Child Tax Credit for each qualifying child.

Earned Income Credit

Millions of taxpayers receive billions through the Earned Income Tax Credit each year. Designed for people who work, it's based on income and number of kids.

Dependent Care Credit

Info about the Child and Dependent Care credit given to families with children to offset child care costs and save on taxes.

EV Tax Credit

EV tax credits help you directly lower your income tax amount. With a car like the Tesla Model 3, you could save as much as $7,500, but there’s a catch.

Recovery Rebate Credit

The Recovery Rebate Credit is like a back payment if you didn’t receive your COVID-19 stimulus check or got a less-than-full amount. It’s here to support Americans in times of crisis.

Education Credit

the IRS offers students and their parents tax benefits like the American Opportunity Credit to ease the burden of several expenses specific to college students.

Child Tax Credit

Understanding the Child Tax Credit to help offset the costs of raising a child. Parents are eligible to receive a Child Tax Credit for each qualifying child.

Earned Income Credit

Millions of taxpayers receive billions through the Earned Income Tax Credit each year. Designed for people who work, it's based on income and number of kids.

What’s FlyFin?

FlyFin caters to the tax needs of self-employed individuals, including freelancers, gig workers, independent contractors and sole proprietors. The A.I.-powered tax service tracks all your business expenses automatically to find every possible tax deduction. Then, our CPA team files a guaranteed 100% accurate tax return for you – to save you a couple thousand dollars and a ton of time on your taxes. And anyone, self-employed or not, can have their taxes filed through FlyFin! Download the FlyFin app and let the CPA team file a 100% accurate tax return for you in less than fifteen minutes, saving time and more money on your taxes than last year, guaranteed.
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