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Tax Credit - Definition and Overview of the Term

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Definition:

A "tax credit" is a tax benefit offered by either the IRS or a state / local government for spending your money on certain things such as college tuition.

The benefit comes in the form of a direct reduction in the amount of income taxes you might owe by the amount of the credit you receive. For example, if you owed $5,000 in Federal income taxes and received a $1,000 tax credit, you would now only owe $4,000.

This is very different than a tax deduction, which does not directly reduce the amount you owe. Rather, a tax deduction reduces the amount your tax is calculated on. Receiving a $1,000 tax deduction might only reduce what you owe by a few hundred dollars.

There are two primary types of Federal income tax credits associated with college planning, the Hope Scholarship and the Lifetime Learning Credit. Both of these tax credits can reduce your income tax bill significantly and should be investigated by any one paying college tuition.

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