Tax Credit Definition | TaxEDU Glossary

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# Tax Credit. A tax credit differs from deductions and exemptions, which reduce taxable income rather than the taxpayer’s tax bill directly. Tax credits can be divided into two types: refundable and nonrefundable. A refundable tax credit allows a taxpayer to receive a refund if the credit they are owed is greater than their tax liability. A nonrefundable credit allows a taxpayer to receive a reduction in their tax liability only until it reaches zero. Suppose a taxpayer, Chris, who has one dependent, has a tax liability of $1,300 prior to credits. If Amy has $1,000 in tax liability, is eligible for the maximum credit amount, and takes no other credits, she will not owe any federal income taxes, but she will also not receive a refund. Tax credits directly reduce tax liability dollar-for-dol...