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What is the difference between deductions and credits?

Both deductions and credits save you money on your taxes, but they do it in different ways.

Credits apply directly to your tax burden, reducing outright the amount you owe the IRS. Let’s say you owe $500 in taxes and you get a tax credit for $400. It reduces your tax burden by $400 so now you only owe $100.

Some, but not all, credits are refundable, which means that if the amount of the credit exceeds what you owe in taxes, you can get the difference back in the form of a refund. Nonrefundable tax credits can only decrease your tax liability; they cannot result in a refund.

Deductions work a little differently. Instead of reducing your tax liability outright, they reduce the amount of income on which you are taxed. This in turn will reduce the amount of tax you owe, but only by whatever tax rate you pay.

Each taxpayer must choose whether to take the standard deduction or to itemize deductions. The standard deduction allows the same amount for every taxpayer (depending on filing status) whereas itemizing deductions requires listing out each of your individual expenses. Most deductions will require you to itemize.