Tax credit


A tax credit is a tax incentive which allows certain taxpayers to subtract the amount of the credit they have accrued from the total they owe the state. It may also be a credit granted in recognition of taxes already paid or a form of state "discount" applied in certain cases. Another way to think of a tax credit is as a rebate.

Refundable vs. non-refundable

A refundable tax credit is one which, if the credit exceeds the taxes due, the government pays back to the taxpayer the difference. In other words, it makes possible a negative tax liability. For example, if a taxpayer has an initial tax liability of $100 and applies a $300 tax credit, then the taxpayer ends with a liability of –$200 and the government refunds to the taxpayer that $200.
With a non-refundable tax credit, if the credit exceeds the taxes due then the taxpayer pays nothing but does not receive the difference. In this case, the taxpayer from the example would end with a tax liability of $0 and the government would not refund the taxpayer the $200 difference.

Credit for payments

Many systems refer to taxes paid indirectly, such as taxes withheld by payers of income, as credits rather than prepayments. In such cases, the tax credit is invariably refundable. The most common forms of such amounts are payroll withholding of income tax or PAYE, withholding of tax at source on payments to nonresidents, and input credits for value added tax.

Individual income tax credits

Income tax systems often grant a variety of credits to individuals. These typically include credits available to all taxpayers as well as tax credits unique to individuals. Some credits may be offered for a single year only.

Low income subsidies

Several income tax systems provide income subsidies to lower income individuals by way of credit. These credits may be based on income, family status, work status, or other factors. Often such credits are refundable when total credits exceed tax liability.

United Kingdom

In the United Kingdom, "Tax Credits" were a form of means-tested support payment. They bear no connection to the amount of tax paid by the recipient and could be paid to those who pay no tax at all. The Child Tax Credit and Working Tax Credit were paid directly into the claimant's bank account or Post Office Card Account. In exceptional circumstances, these can be paid by cashcheque. However, payments may stop if account details are not provided. A minimum level of Child Tax Credits is payable to all individuals or couples with children, up to a certain income limit. The actual amount of Child Tax Credits that a person may receive depended on these factors: the level of their income, the number of children they have, whether the children are receiving Disability Living Allowance and the education status of any children over sixteen years of age. Since 2018, Child Tax Credit has been replaced by Universal Credit for most people.
Working Tax Credit is paid to single low earners with or without children who are aged 25 or over and are working over 30 hours per week and also to couples without children, at least one of whom is over 25, provided that at least one of them is working for 30 hours a week. If the claimant has children they could claim Working Tax Credit from age sixteen and up, provided that they are working at least sixteen hours per week.
Tax Credits were capped which many sources claimed affects the poorest families disproportionately. A survey by End Child Poverty estimated that roughly 1.5 million parents have reduced spending on basics like food and fuel. According to Gavin Kelly of the Resolution Foundation, tax credits help raise living standards of low paid workers. He wrote in the New Statesman, "Perhaps the biggest misconception is the voguish notion that if tax credits are cut, employers will somehow decide to offer pay rises to fill the gap. This is saloon-bar economics espoused by some on both left and right."
On 15 September 2015, the House of Commons voted. BBC News, 15 September 2015 to decrease Tax Credit thresholds, a law that came into effect on 6 April 2016. Opponents claimed that it would harm those on low incomes. Simon Hopkins, Chief Executive of charity Turn2us commented "Today's vote in the House of Commons will mean one thing for many of the poorest working families in the UK; they are going to get poorer. Tax credits are a vital source of income for those on a low wage and for many they make up a substantial portion of their monthly income."
The IFS supported the opposition view that the effects of the changes would disproportionately reduce the income of poor families, even taking into account reductions in income tax and an increase in the National Living Wage. The government responded that the tax credit system had, for too long, been used to subsidise low pay and the changes would bring total expenditure on tax credits back down to more sustainable levels seen in 2007–08.
On 26 October 2015 the House of Lords supported a motion from Baroness Meacher delaying the imposition of the cuts until a new consideration of the effects could be made by the House of Commons.
The tax credit system ended on 5 April 2025. No new claims can be made and no more payments will be made.

United States

The U.S. system grants the following low income tax credits:
  • Earned income credit: this refundable credit is granted for a percentage of income earned by a low income individual. The credit is calculated and capped based on the number of qualifying children, if any. This credit is indexed for inflation and phased out for incomes above a certain amount. For 2016, the maximum credit was $6,269 for taxpayers with three or more qualifying children.
  • Credit for the elderly and disabled: a nonrefundable credit of $3,750 to $7,500 as of 2025.
  • Retirement savings contribution credit: a nonrefundable credit of up to 50% for up to $2000 of contributions to qualified retirement savings plans, such as IRAs, 401/403/457 plans and the Thrift Savings Plan; phased out starting at incomes above $18,000 for single returns, $27,000 for heads of household, and $36,000 for joint returns.
  • Mortgage interest credit: a nonrefundable credit that may be limited to $2,000, granted under specific mortgage programs.
  • Premium tax credit: this refundable credit is provided to individuals and families who obtain healthcare insurance policies through a healthcare exchange, and whose income falls between 100% and 400% of the applicable federal poverty line. It was first introduced in the 2014 tax year.

    Canada

There are several different types of income tax credits offered in Canada:
  • Canada Child Benefit: A tax-free monthly payment for families raising children under 18.
  • Canada Caregiver Credit: A non-refundable credit for supporting a spouse, common-law partner, or dependant with a physical or mental impairment.
  • Canada Workers Benefit: A refundable credit for low-income workers.
  • Disability Tax Credit: A non-refundable tax credit that helps people with disabilities, or their supporting family member, reduce the amount of income tax they may have to pay.
  • Canada Training Credit: A refundable tax credit available to help Canadians with the cost of eligible training fees.
  • Home Accessibility Tax Credit: A non-refundable tax credit to help with the cost of making a person's home accessible.
  • Medical Expense Tax Credit: A non-refundable tax credit that a person can claim for themselves, their spouse or common-law partner, or other dependants, including their children or their spouse's or common law's children.

    Family relief

Some systems grant tax credits for families with children. These credits may be on a per child basis or as a credit for child care expenses.
The U.S. system offers the following nonrefundable family related income tax credits :
  • Child credit: Parents of children who are under age 17 at the end of the tax year may qualify for a credit up to $1,000 per qualifying child. The credit is a dollar-for-dollar reduction of tax liability, and may be listed on Line 51 of Form 1040. For every $1,000 of adjusted gross income above the threshold limit, the amount of the credit decreases by $50.
  • Child and dependent care credit: Taxpayers may claim a credit up to $3,000 of eligible expenses for dependent care for a child under age 13 in order to pursue or maintain gainful employment. If one parent stays home full-time, however, no child care costs are eligible for the credit.
  • Credit for adoption expenses: a credit up to $10,000, phased out at higher incomes. Taxpayers who have incurred qualified adoption expenses in 2011 may claim either a $13,360 credit against tax owed or a $13,360 income exclusion if the taxpayer has received payments or reimbursements from their employer for adoption expenses.

    Education, energy and other subsidies

Some systems indirectly subsidize education and similar expenses through tax credits.
The U.S. system has the following nonrefundable credits:
  • Two mutually exclusive credits for qualified tuition and related expenses. The American Opportunity Tax Credit is 100% of the first $2,000 and 25% of the next $4000 of qualified tuition expenses per year for up to two years. The Lifetime Learning Credit is 20% of the first $10,000 of cumulative expenses. These credits are phased out at incomes above $50,000 in 2009. Expenses for which a credit is claimed are not eligible for tax deduction.
  • First time homebuyers credit up to $7,500.
  • Credits for purchase of certain nonbusiness energy property and residential energy efficiency. Several credits apply with differing rules.

    Business tax credits

Many systems offer various incentives for businesses to make investments in property or operate in particular areas. Credits may be offered against income or property taxes, and are generally nonrefundable to the extent they exceed taxes otherwise due. The credits may be offered to individuals as well as entities. The nature of the credits available varies highly by jurisdiction.