Lower your Tax Liability with Deductions and Credits

Tax deductions and credits help taxpayers reduce their tax liability. The differences between the two are in their definitions:

  • A tax deduction reduces your gross income and arises from a deductible expense. Taxpayers can take a standard deduction up front or itemize expenses.
  • A tax credit is an amount of money applied directly to the tax liability. Tax credits are far less common.

About Tax Deductions

Say your adjusted gross income for 2014 was $75,000. If you filed jointly with a spouse and were born before January 2, 1950, your standard deduction would have been $14,800. You figure your income tax bill based on a reduced income of $60,200.

There are, however, other “above-the-line” deductions you can claim to lower the aforementioned $75,000 adjusted gross income. For tax year 2014, those deductions are listed on lines 16 through 21 on Form 1040A and lines 23 through 37 on Form 1040. Deductions common to both forms are:

  • Educator expenses
  • IRA deductions
  • student loan interest payments
  • tuition and fees

Taxpayers wanting to take advantage of business, health savings, moving, self-employment, alimony payments and other expenses, need to file Form 1040, fill out the additional IRS forms and hope for the best -- the “best” being avoidance of an IRS audit trigger.

small business accountant tax savingsThe alternative to taking the standard deduction is to fully itemize your expenses for the tax year. To be worth the trouble, your itemized expenses must exceed the standard deduction. Attach Schedule A to Form 1040 to document the following:

  • Medical and dental expenses that exceed 7.5% for seniors’ and 10% of younger taxpayers’ adjusted gross income
  • State and local taxes
  • Interest payments on home mortgages, etc.
  • Charitable gifts of at least $250 in cash or $500 in other than cash
  • Casualty or theft losses
  • Unreimbursed job expenses
  • Other miscellaneous deductions specified in the Schedule A instructions

If your adjusted gross income was not over $152,525 for 2014, your deduction was not limited. Wealthier taxpayers must use a worksheet that reduces the overall deduction that can be claimed.

About Tax Credits

If you can claim a tax credit (lines 31 through 38 on form 1040A and lines 48 through 54 on Form 1040), you can subtract that amount from the taxes you owe. It is a 100 percent, dollar-for-dollar tax relief, regardless of your taxable income. Tax credits for individual taxpayers are far less common and generally apply to the following:

  • earned income tax credit
  • education credits
  • child and dependent care credits
  • child adoption credits
  • saver’s credits

Business tax credits, on the other hand, run the gamut from general business, investment, electric vehicle and other energy credits to mine rescue team training. The credits are designed, among other things, as incentives for community development, research and energy savings.

The Bottom Line:

For the average taxpayer, tax deductions lower the amount of income subject to federal income tax. Unless you have had large deductible expenses during the tax year, taking the standard deduction is the easiest way to complete your tax return. If you can qualify for a tax credit, which will apply dollar-for-dollar to reduce your tax bill, you can offset your tax liability.

Contact Dmitry Dukhon at Dukhon Tax to help you get organized, file your returns and answer any questions you may have. We can be an invaluable resource for you to make the process as smooth as possible.