If you thought paying your taxes was complicated, saving on your taxes is just as hard. The IRS offers 48 different deductions and credits for individual filers, ranging from the much-publicized Child Tax Credit to the weirdly specific Gambling Loss Deduction.
Learning which credits and deductions you qualify for can help save you thousands. But first, you need to know the difference between the two.
- A tax credit directly reduces what you owe. When you receive a tax credit, it’s commonly described as “reducing your tax bill dollar for dollar.” So, if you owe $5,000 in taxes but have a $1,000 tax credit, your final tax bill is $4,000.
- A tax deduction shields some of your income from being taxed in the first place. Let’s say you’re in the 22 percent tax bracket (because you earned $55,901 to $89,050). If you receive a $1,000 tax deduction, you save only $220 off your final tax bill.
We’ve grouped tax credits into three general categories and tax deductions into two. Hopefully, this will help you quickly figure out which might apply to you…
Individual tax credits are for the typical taxpayer, unlike credits for a corporation.
Child Tax Credit
Family and dependent credits are fairly common, particularly the Child Tax Credit. It gives parents up to $1,000 per qualifying child under the age of 17. The IRS provides a questionnaire that will tell you if any of your dependents qualify you for the credit. In 2021, parents could receive up to half of their payment in advance.
If you received advance payments, you’ll have to compare the amount you already got with the amount you’re still owed. You can log in to the IRS website to figure out what you’ve been paid. If you didn’t receive any advance payments for the Child Tax Credit, you can still claim it on your tax return.
If you are worried that you may owe the IRS because of Child Tax Credit overpayments, there’s no need to worry, says Claire Hunsaker.
Many people are worried about having to repay the monthly payments, but the advance payment program was designed with safeguards to prevent overpayment.Claire Hunsaker, an IRS-certified Advance Preparer for the VITA/TCE program
Recovery Rebate Credit
Three rounds of stimulus checks were issued through the pandemic. Taxpayers who never received their payments or didn’t get the full amount can claim the Recovery Rebate Credit. It’s vital that you know which stimulus payment(s) you didn’t receive – only the third one can be claimed in a 2021 tax return. The first two payments were issued in 2020 and can only be claimed for that year’s tax return.
Earned Income Tax Credit
The Earned Income Tax Credit (EITC) is for low-to-moderate-income households. It’s mostly given to taxpayers with children, however, that is not a requirement. To be eligible for this tax break you must:
- Have worked and earned less than $57,414 in income
- Have less than $10,000 in investment income for the 2021 filing period
- Have a valid Social Security number
- Be a U.S. Citizen or a resident alien for the whole year
- Not file Form 2555 which pertains to foreign earned income
Child and Dependent Care Credit
The child and dependent care credit is for taxpayers who pay for care for qualifying children or adult dependents (like a disabled spouse) in order to go to work, look for work, or attend school. The amount that you’re paid is calculated based on your income and the expenses incurred by taking care of the dependent.
Taxpayers with over $438,000 in taxable income, however, do not qualify for the child and dependent care credit.
To claim it, you’ll have to fill out a Child and Dependent Care Expenses form (Form 2441). The payment amount was raised in 2021, so filers could receive up to $4,000 for one qualifying dependent or $8,000 for two or more qualifying dependents.
Douglas Hord, a tax and business consulting expert, argues that in some cases it may be in your best interest to seek a standard deduction.
The average taxpayer who has two or fewer dependents will generally do better with the standard deduction.Douglas Hord of My Tax Guy in Houston LLC
The adoption credit will give up to $14,440 per child if a filer incurs expenses while going through the adoption process. Qualified expenses include:
- Necessary adoption fees
- Travel expenses
- Court and attorney fees
- And other expenses that relate directly to the adoption
To find out if your adoption qualifies for the tax credit, use this IRS tool.
Credit for the Elderly or the Disabled
There’s a credit for the elderly and the disabled that ranges between $3,750 and $7,500. To qualify, you must be 65 years or older or you have to be retired, have a permanent disability, and have received taxable disability income during the tax year.
You must also have either an adjusted gross income or nontaxable Social Security, pension, or disability income under a range of limits set by the IRS. You can use this tool to determine if you qualify and calculate your possible credit.
Income and savings credits
Did you know that you can also get tax credits just for saving money?
Depending on your adjusted gross income, the Saver’s Credit – also known as the Retirement Savings Contributions Credit – can get you 50%, 20%, or 10% of:
- The contributions you made to a traditional or Roth IRA
- Contributions to a 401(k), 403(b), governmental 457(b), SARSEP, or SIMPLE plan
- Contributions made to an ABLE account, or
- Contributions to a 501(c)(18)(D) plan
The lower your income, the more credit you’ll get.
To be eligible, you must be 18 years or older, not be a dependent, and you must not be a student. You count as a student if you were enrolled full-time at a university, college, technical, trade, or mechanical school for a five-month period. This does not apply to schools that offer classes only online.
Foreign Tax Credit
If you paid taxes to a U.S. territory or foreign country, you may qualify for the Foreign Tax Credit. It can be used as a deduction or a credit, but the IRS says that it’s more beneficial as a credit.
Excess Social Security and RRTA Tax Withheld
Most jobs withhold Social Security taxes for their employees and if too much tax is withheld, your employer should adjust the excess funds. If they don’t, you can fill out an Excess Social Security and RRTA Tax Witheld form (Form 843). You may also have to do this if you’ve worked two or more jobs in the year.
Undistributed Long-Term Capital Gains
Companies will typically distribute capital gains to their shareholders. But if they decide not to distribute their gains, they must pay taxes on behalf of the shareholders who would normally report them on their own tax forms. If you have stock in a company that takes this route, you’ll receive a Notice to Shareholder of Undistributed Long-Term Capital Gains (Form 2439). If you get this form, you might be due a refund so be sure to report it while doing your federal taxes.
Prior-Year Minimum Tax Credit
The Alternative Minimum Tax is an additional tax applied to filers who make over a certain amount in income so that they aren’t able to abuse tax credits or deductions. If you filed an AMT last year, you can actually fill out Form 8801 for the Prior-Year Minimum Tax Credit. This credit can help you get back some of the extra money you paid the previous year.
If you own a home and have considered a more green way of living, then you might be swayed by these tax incentives.
Residential Renewable Energy Tax Credit
Filers who install a renewable energy source (solar, wind, geothermal, or fuel-cell technology) within their home can qualify for the Residential Renewable Energy Tax Credit. The credit is applicable to a primary residence and a secondary residence.
If the technology was installed in 2019, the credit will cover 30% of the installation cost; if it’s installed between 2019 to 2022, the credit will cover 26%; between 2022 to 2023, it’ll cover 22%.
Technology that is eligible for the credit includes:
- Solar panels that generate electricity for the home
- Solar-powered water heaters that generate at least half of the home’s water-heating capacity. Expenses for swimming pools and hot tubs are not included
- Wind turbines that generate up to 100 kilowatts in residential electricity
- Geothermal heat pumps that meet the federal government’s Energy Star guidelines
- Fuel cells that generate at least 0.5 kilowatts of power for the home
Plug-in Electric Drive Vehicle Credit
There is also the Plug-in Electric Drive Vehicle Credit for those who purchase an electric truck or car. The vehicle must have at least four wheels, weigh under 14,000 pounds, and get its energy from a battery with at least 4 kilowatt-hours. You must have made the purchase in or after 2010, but can only claim it as a credit during the year which you started using the vehicle.
Depending on the vehicle’s battery capacity, you can get between $2,500 and $7,500.
Health care credits
The stress of keeping up with health insurance payments can take a toll, so the IRS has credits available to try and lighten the load.
Premium Tax Credit
The Premium Tax Credit is available to filers who used the Health Insurance Marketplace, a federal and online tool that helps people shop for a health insurance plan. Premiums, the monthly payment towards a plan, are determined partly on income and the household information you provide. That same information will also determine if you’re eligible for the tax credit.
You can get the credit in advance to help keep up with the monthly costs. If you receive more in advance credits than what you actually qualify for, you’ll have to pay back the difference at the end of the year. If you use less, then you’ll get that money in your tax refund.
If your income is equal to or less than 400% of the federal poverty level (FPL), you’re eligible. Typically anyone who makes more than that would not qualify, but the IRS is temporarily getting rid of that rule.
To qualify, you can’t file under the married but filing separately status nor can you be a dependent.
You or a family member must also:
- Have insurance through the Health Insurance Marketplace and have all of the premiums paid off
- Not be able to afford an employer-sponsored coverage plan with the minimum value
- Not be eligible for Medicaid, Medicare, CHIP or TRICARE
Health Coverage Tax Credit
Congress must renew the Health Coverage Tax Credit and filers who qualify for it must reapply every year. The HCTC (Form 8885) was available in 2021 but as of February, has not been renewed for 2022.
Like the Premium Tax Credit, the HCTC can either be used to reduce monthly health insurance premiums are it can be given as a refund at the end of the year. If you qualify, the HCTC will pay 72.5 percent of your qualified premium in advance to your insurance provider every month.
To qualify for the HCTC, you must be a trade adjustment assistance (TAA) recipient or a Pension Benefit Guaranty Corporation (PBGC) payee. You might also qualify if you’re over the age of 55 and getting benefits from the PBGC.
If you enrolled in higher education courses during the tax year, you may qualify for credits even if you haven’t completed your degree.
American Opportunity Tax Credit
The American opportunity tax credit (AOTC) will give up to $2,500 to a student per year for the first four years of their post-secondary education. This will only cover tuition, it won’t cover things like room and board or textbooks. If the credit brings your tax bill to zero, you’ll get 40 percent of the remaining credit in your refund (up to $1,000).
Lifetime Learning Credit
Unlike the AOTC, the lifetime learning credit (LLC) has no limit on the years of education it will cover. The LLC will cover qualified courses that go towards an undergraduate, or graduate degree and even professional degree courses. The maximum amount is $2,000 per year and can be claimed by a student or by filers who are paying for a dependent to go to school.
While credits are often more narrow, deductions cover a wide range of topics. Deductions can be applied to business expenses and even certain travel expenses.
If you’re self-employed, starting a small business, or a standard employee, there are many work-related deductions that you can claim.
Business expenses must be considered normal and necessary for your field of work. The IRS says, “A necessary expense is one that is helpful and appropriate for your trade or business. An expense does not have to be indispensable to be considered necessary.”
The home office deduction is available to filers who have a space in their home that they use exclusively for work. This is available for homeowners and renters alike, but because the space has to be strictly for business use, your kitchen table or a desk in your bedroom would not qualify you for this deduction.
If you have a home office, you can deduct costs like utilities. Based on how large your home and your home office are, you can get a portion of your bills back.
Employees can get a deduction for work uniforms, but they can’t be suitable for daily wear and must be required for your work. You can also deduct the cost of dry cleaning and laundering your uniform but you can’t deduct more than 2% of your gross income.
Employees can also deduct:
- Job search expenses like travel costs for going to interviews
- The cost of a passport for a business trip
- Dues to professional societies (lobbying and political institutions do not qualify)
Since 2018, it’s become pretty difficult for most employees to get unreimbursed employee business expenses deducted.
But through Form 2106, fee-based state and local government officials, Armed Forces reservists, employees with impairment-related work expenses, and eligible performing artists are still able to get these deductions. Moving expenses and other miscellaneous deductibles are also only applicable to these groups.
If you fall under any of those categories, you can also get a deduction for your educational expenses. To get the deductible, the education must be necessary for maintaining or improving your work-related skills, or the law must require it in order to keep your current position or salary.
Self-employed filers and small business owners can get a deduction for mileage accrued during their regular commutes and other travel expenses. Unfortunately, regular employees are not eligible for this deduction.
Small business owners have access to more deductions for things like:
- Business insurance expenses
- Office supplies and furniture
- Work-related meals and entertainment for things like office parties and meetings (up to 50%)
- Depreciation of large purchases (cars, heavy machinery, etc.)
- Employee salaries, benefits, and gifts as long as they’re considered reasonable
- Service fees for accounting professionals
All taxpayers have a standard deduction that can be applied to their income – even if they don’t qualify for any itemized deductions. In 2021, the standard deduction rates are:
- Single taxpayers and married individuals filing separately: $12,550
- Heads of households: $18,800
- Married couples filing jointly or qualifying widow: $25,100
Filers can take the standard deduction or they can do an itemized deduction. The itemized deduction is the better choice if it’s higher than the standard deduction, but it is more time-consuming to claim as you need to have receipts or other proof for your purchases.
If you’re married and filing separately from your spouse who is itemizing their deductions, you’re not eligible for the standard deduction.
An itemized deduction might be better if during the tax year you:
- Had a large, out-of-pocket medical expense
- Paid state or local real estate or property taxes
- Had gambling losses
- Made large donations to eligible charities
- Paid interest on your mortgage
- Lost property because of a federally declared disaster
Filers should use Form 1040 to track their itemized deductions.
State taxes, local taxes, foreign income taxes, sales tax, real estate tax, and personal property taxes can also be tax-deductible. But state and local taxes on car inspection fees, gasoline, licensing fees, and property improvements aren’t.
Single taxpayers are limited to $10,000 in total for state and local taxes, sales, and property tax deductions. People who are married and filing separately are limited to $5,000.
If you make any charitable donations you can lower your income tax bill. In 2021 and in 2022, the IRS has allowed for deductibles on cash donations. But if you missed out on claiming these deductions last year, you will not be able to amend last year’s return to deduct a donation made this tax year, says Claire Hunsaker.
Many people missed this last year. Filers who use the standard deduction can still write off $300 of cash donations to qualified charities – $600 if you’re married. This rolled out last year and a lot of people missed it. 90% of filers use the standard deduction and can use this credit to reduce their taxable income. It has to be cash and a qualified organization, so Goodwill donations and GoFundMe don’t count.Claire Hunsaker, IRS-certified Advance Preparer for the VITA/TCE program
You can get a tax deduction for interest expenses such as mortgage interest on up to two homes, interest on some business loans or credit cards, and student loan interest.
In addition to student loan interest and the cost of eligible courses, education deductions also include teacher expenses. Qualified educators can get up to $250 in return for unreimbursed books, classroom supplies, computers, etc.
If you’re married and filing separately from your spouse who is itemizing their deductions, you aren’t eligible for the standard deduction.
If you paid out of pocket for medical or dental care for yourself, your partner, or your dependents – you may be able to get some of that money deducted. But you can only deduct the expenses that are more than 7.5% of your annual income and you’ll have to itemize the costs on an IRS Schedule A form.
Note that if you paid off your expenses using a flexible spending account or health savings account (HSA) you might have a harder time deducting the costs because those accounts are already tax-adjusted. Payments that you make to your HSA are already tax-deductible, but if you spend over the 7.5% minimum outside of the HSA account you may be able to claim those deductions.
Medical deductions can cover surgeries, psychologist and psychiatric visits, prescriptions, and even travel costs for medical care.
Capital losses are when you sell a personal asset like a car, furniture, or stocks and lose out on money because of the sale. Losses aren’t deductible but capital gains are. A gain is when you sell a personal asset and make money.
Some of the proceeds from selling your home are tax-deductible. If you’re a single filer, the first $250,000 of your profit isn’t taxable– the first $500,000 is tax-free for married, joint filers. If the sale of your home is worth more than those maximums, the rest is taxable.
You must also have owned the home for at least two years of the five-year period before its sale. Unfortunately, you can’t get a tax exclusion if your home sold for less than you bought it.
If you’ve been contributing to an Individual Retirement Arrangement (IRA), you can probably get a deduction based on your contribution amounts. Most people who make contributions are eligible, but if you or your spouse have a 401(k) and if you make above a certain amount, you won’t get this deduction.
Not everyone who is lent money is eager to pay you back. If you gave out a loan and it doesn’t look like you’ll ever get your money back, you might have bad debt. But the IRS says, “If you lend money to a relative or friend with the understanding the relative or friend may not repay it, you must consider it as a gift and not as a loan.” In that situation, the debt is not deductible.
A business’s bad debt is deductible if the loan you provided was given to a client, supplier, distributor, or employee. Credit sales to customers and business loan guarantees also count. Business debts can be deducted with little to no limitations.
Nonbusiness bad debts must be considered “totally worthless” to qualify as deductible. There must not be any reason to suspect the debt will get repaid – if your creditor files for bankruptcy, you have bad debt.
You must have given out a loan from your personal bank account and have a written agreement with the other party. If you lend money to a friend or relative under the assumption they may not pay it back, it’s considered a gift and not bad credit – making it not deductible.
Debt that’s forgiven through a foreclosure, repossession, abandonment, or because of a loan modification or short sale is typically taxed as income.
The forgiven debt is tax-exempt if:
- It was canceled as a gift, bequest, devise, or inheritance
- An amount was discharged from certain federal, private, or educational student loans
- The debts were forgiven under bankruptcy
- It’s interest on a forgiven business debt
- The debt is connected to a farm you own
Small business deductions
You work tirelessly to bring in revenue for your company. The last thing you want to do is give it all away in taxes.
A lot of small businesses appear to be doing just that though. In fact, the National Federation of Independent Businesses found that tax compliance costs are 67 percent higher for small businesses than larger ones. They add up to $18-$19 billion per year across the U.S small business environment.
With the complexity of filing taxes quickly each year, many small business owners miss deductions that can help lower their tax burden. Click or swipe for five potential deductions that are often missed and worth asking your tax professional about.
While you may qualify for certain deductions and credits, are you taking advantage of them? For example, your expenses may have exceeded allowable amounts. Or, you qualify for a credit and it exceeds the tax you owe but the credit isn’t refundable. Perhaps you’ve had a net operating loss.
Carryover deductions include capital losses, net operating losses, charitable contributions, and home office deductions denied for the present tax year. Other carryover allowances include adoption tax credits, foreign tax credits, and credits for energy efficiency. Carry these types of losses, credits, and deductions forward into future tax years as a way to reduce taxable income.
There are many factors that determine how long you can carry such benefits forward and how to claim them. Check with your tax professional on these.
Out-of-pocket charitable deductions
Cash, non-cash items, and mileage to charitable events can quickly add up to a worthwhile deduction. You may not realize how much you can deduct if you itemize your tax deductions.
With cash donations to a public charity, you can typically deduct up to 60 percent of your adjusted gross income. You can also donate certain assets like property as long as you have held them for more than a year. These assets are deductible at fair market value for up to 30 percent of your adjusted gross income. You can combine more than one type of asset to maximize your charitable tax deduction.
The non-profit organizations that you donate to must be 501(c)(3) public charities or private foundations. Maintain good records of all these charitable contributions to substantiate the value of what you are deducting.
In 2019, the standard mileage rates for using your vehicle for a charitable purpose is 14 cents per mile. You can also opt to calculate the cost of using your vehicle instead. These costs include gas, maintenance, and repairs.
Losses on bad debts
While some decisions might cost your business financially, there could be a silver lining. You may be able to recover part of any bad debts by writing those costs off on your taxes.
To deduct these business losses, the debt must be valid and you must show you have a real investment in that debt. A good way to prove this is to have the loan appear on your business’ financial records.
To be valid, or bonafide, debt, there must be a proven debtor-creditor relationship. Proof includes some type of loan agreement form that the borrower has signed. Unpaid child support, wages, salaries, rents, interest or dividends are not considered bad debts.
In order to take deductions on bad debts, they must be written off during the year you’re taking the deduction. Also, you need to show you took reasonable steps to collect the money. If there’s no chance the debt will be repaid, then report it on your tax return. If you are unfortunate enough to have more than one bad debt to report, you must list them separately.
Business startup costs
If you have just started a small business, you can take advantage of it at tax time. Certain startup costs are tax-deductible. You can take up to $5,000 of business startup costs and claim them as a deduction.
However, not many founders can say they were successful enough in their first year to actually report income and need such a deduction. Some choose to amortize all of their startup costs, including those beyond the first $5,000, over a period of 15 years. This may help offset income and get more out of startup costs in the long term.
There are some startup costs the IRS won’t allow though. For example, any education or courses you took to prepare for your business don’t qualify as deductible expenses. Although business assets like equipment, vehicles, and buildings do count for tax purposes in terms of their depreciation, you cannot include them in the startup cost deduction.
If you have assets that have depreciated in value during the course of business, that depreciation can add up to an income tax deduction. In this category, many businesses take advantage of bonus depreciation and Section 179 deductions.
The bonus depreciation is useful for small business owners. They can take the deduction during their first year on business property purchases in addition to other depreciation. Think of bonus depreciation as accelerated depreciation when a business can deduct 100 percent of the cost of business property in the first year of use. You can use IRS form 4562 to claim bonus depreciation.
Use the same form to claim Section 179. Section 179 and bonus depreciation are similar. Section 179 lets you expense the cost of your qualified business property while depreciation then lets you to recover that cost over a certain period. You would take this deduction first if you have taxable profit to report. After that, you would take the bonus depreciation to reduce the rest of the business property cost over the course of its useful life.