Tax Credits and Deductions

Background

Tax credits and deductions are two ways to reduce tax liability. Tax credits directly reduce the amount of taxes owed, dollar-for-dollar. They benefit all those who owe tax. If the creditTax credits directly reduce the amount of taxes owed. is refundableA tax credit whose full amount is paid even if it exceeds the amount of taxes owed. , people can receive a tax refund even if the benefit exceeds the amount of their tax liability.

In contrast, tax deductions reduce the amount of income that is subject to tax. They are also called exemptions or exclusions. A dollar of a deductionReduction in the amount of income that is subject to tax. A dollar of a deduction reduces taxes by only a fraction of a dollar, as determined by the taxpayer’s applicable tax rate reduces taxes by only a fraction of a dollar, determined by the taxpayer’s applicable tax rate.

Some of these tax preferencesProvisions in the tax code—such as exclusions, deductions, credits, or special tax rates—that reduce the amount a person owes in taxes. are intended to encourage certain types of activity. Or, they may provide relief for people in certain situations. For example, the medical expense deductionReduction in the amount of income that is subject to tax. A dollar of a deduction reduces taxes by only a fraction of a dollar, as determined by the taxpayer’s applicable tax rate helps people with very high medical bills. The Earned Income Tax CreditTax credits directly reduce the amount of taxes owed. ( EITCEarning Income Tax Credit (EITC) is a tax credit for working people with low or moderate income. ) primarily aims to improve the financial position of working families with children. Some tax credits are offered to businesses to encourage economic development in a local jurisdiction.

Medical expense deductionReduction in the amount of income that is subject to tax. A dollar of a deduction reduces taxes by only a fraction of a dollar, as determined by the taxpayer’s applicable tax rate

Some taxpayers with high medical expenses can claim a deductionReduction in the amount of income that is subject to tax. A dollar of a deduction reduces taxes by only a fraction of a dollar, as determined by the taxpayer’s applicable tax rate for a portion of those expenses. Older people are more likely than younger people to claim the deductionReduction in the amount of income that is subject to tax. A dollar of a deduction reduces taxes by only a fraction of a dollar, as determined by the taxpayer’s applicable tax rate . For tax year 2020, people can deduct any medical expenses in excess of 7.5 percent of income. Without periodic congressional extensions, this threshold will rise to 10 percent.

Earned Income Tax CreditTax credits directly reduce the amount of taxes owed.

Created in 1975, the EITCEarning Income Tax Credit (EITC) is a tax credit for working people with low or moderate income. is a major federal program to assist the working poor. This refundableA tax credit whose full amount is paid even if it exceeds the amount of taxes owed. tax creditTax credits directly reduce the amount of taxes owed. has grown into the federal government’s largest antipoverty program. Many states offer their own versions of the federal creditTax credits directly reduce the amount of taxes owed. .

The EITCEarning Income Tax Credit (EITC) is a tax credit for working people with low or moderate income. enjoys widespread support. The creditTax credits directly reduce the amount of taxes owed. boosts the financial security of working families and increases work incentives. Receipt of the EITCEarning Income Tax Credit (EITC) is a tax credit for working people with low or moderate income. does not carry a stigma in contrast to some means-tested public-benefit programs. As a result, the creditTax credits directly reduce the amount of taxes owed. enjoys a high participation rate.

However, the current structure of the federal EITCEarning Income Tax Credit (EITC) is a tax credit for working people with low or moderate income. limits its effectiveness at providing financial security and work incentives. That is particularly true for workers with no dependents and older workers. The maximum size of the creditTax credits directly reduce the amount of taxes owed. for childless workers is much lower. In tax year 2020, the maximum amount was $538 for a worker with no dependents compared with $6,660 with three or more qualifying children. Recipients without a qualifying child must be between the ages of 25 and 64 to be eligible. This further limits the EITCEarning Income Tax Credit (EITC) is a tax credit for working people with low or moderate income. ’s scope.

Business tax incentives

Some states and localities offer credits and deductions to businesses to encourage job creation and capital investment. Often governments compete to lure businesses, undermining each other’s efforts. The effectiveness of these incentives is unclear.

For further information on other credits and deductions, see the following Policy Book sections. For retirement savings tax incentives, see Chapter 4, Savings and Retirement Security. For tax incentives to expand health coverage, see Chapter 7, Health. For tax credits to caregivers and incentives for buying private long-term care insurance, see Chapter 8, Long-Term Services and Supports Also known as Long-term Care (LTC), LTSS encompass a broad range of assistance needed by people of all ages who have cognitive or mental impairments and who may lack the physical ability to function independently.  In their basic form, LTSS consist of help with self-care and… . For incentives to adopt broadband technologies, see Chapter 12, Utilities: Telecommunications, Energy, and Other Services. And for tax credits to preserve affordable housing and minimize property tax burdens, and the Low Income Housing Tax CreditTax credits directly reduce the amount of taxes owed. program, see Chapter 13, Livable Communities.

TAX CREDITS AND DEDUCTIONS: Policy

TAX CREDITS AND DEDUCTIONS: Policy

Medical expense deduction

The threshold for the medical expense deductionReduction in the amount of income that is subject to tax. A dollar of a deduction reduces taxes by only a fraction of a dollar, as determined by the taxpayer’s applicable tax rate should be kept as low as possible.

Earned income tax credit (EITC)

Congress and the states should extend the EITCEarning Income Tax Credit (EITC) is a tax credit for working people with low or moderate income. to workers with low incomes who have no dependents regardless of age, provided they are not dependents themselves.

Congress should provide funds to the Internal Revenue Service (IRS) for EITCEarning Income Tax Credit (EITC) is a tax credit for working people with low or moderate income. education and counseling programs to encourage eligible taxpayers to obtain the creditTax credits directly reduce the amount of taxes owed. .

The IRS should increase funding for tax-assistance programs to help eligible workers with low incomes receive the creditTax credits directly reduce the amount of taxes owed. .

When states experience surpluses that allow them to cut taxes, they should enact or expand EITCs in a fiscally responsible manner.

Business tax incentives

States and localities should carefully evaluate the effectiveness of the incentives they offer to attract or retain businesses.

Any incentives offered to businesses should be transparent with respect to costs and beneficiaries.