Taxes can be confusing; there’s no doubt about it. However, if you want to keep more of your money, it’s important to understand the difference between tax credits vs tax deductions. While both can reduce your tax burden, they operate in different ways.
Tax Deduction
A tax deduction (also called a tax write-off) is an eligible expense that you can subtract from your income. It helps to lower taxable income, which lowers the amount of tax you have to pay.
For example, let’s say your gross income is $60,000. If you contributed $10,000 to an RRSP, that contribution is tax-deductible – meaning your taxable income would drop to $50,000. You’d only be taxed on that $50,000, not the full $60,000.
Examples of the most common tax deductions:
● RRSP contributions: One of the most well-known deductions. As per the example above, contributions to this account reduce your taxable income.
● Moving expenses: If you moved at least 40 kilometres closer to a new job, school, or business location, you may be able to deduct moving costs.
● Home office expense: If you work from home, you may be able to claim a portion of your rent, utilities, and internet.
If you’re interested in learning about some uncommon ones, check out our article HERE.
Tax Credit
A tax credit is an amount that’s subtracted directly from the tax you owe.
For example, if you owe $3,000 in taxes and have $1,000 in tax credits, your total tax bill drops to $2,000 – regardless of how much income you earned.
There are two main types of tax credits: non-refundable credits – only reduce your tax if you owe money. For example, if you owe $1,000 in tax and have $2,000 in non-refundable credits, the credits will bring your tax bill to $0 – but you won’t get a refund for the unused $1,000. On the flip side, there are refundable credits, which can lead to a refund even if you don’t owe any tax.
Examples of tax credits:
● Canada caregiver credit: Tax credit for people who support a spouse, common-law partner, or a child with a physical or mental impairment
● Tuition tax credit: For students paying eligible tuition fees.
What’s the difference between the two?
While both can reduce your tax bill, they go about it in different ways. A deduction helps you before your tax is calculated, while a credit helps you after.
A deduction reduces the portion of your income that’s subject to tax, so it’s especially valuable for people in higher tax brackets who are looking to lower their taxable income and potentially move into a lower bracket.
A credit directly reduces the amount of tax you owe – almost like a coupon or voucher that applies to your final bill. That makes applicable tax credits valuable to everyone, regardless of income level, as they offer the same dollar-for-dollar savings across the board.
It’s also not always a matter of tax credit vs tax deduction; you can include both deductions and credits when filing your taxes. You can also claim multiple deductions and credits, as long as you’re eligible.
How do you know what you qualify for?
You can start by thinking about what happened in your life this tax year – did you contribute to an RRSP, pay for childcare, move to a new job, take any courses, make any charitable contributions? Those are all things that might make you eligible for deductions or credits.
A simple way to make sure you don’t miss anything is to go through your email for the year to look for invoices or receipts you may have forgotten about, and logging into your online banking for RRSP (or other) tax documents. Your online CRA account will also list any tax credits you received.
There’s a full list online of possible credits and deductions on the CRA website, but if that feels overwhelming, using tax software can help guide you through what applies. They’ll ask simple questions and suggest claims based on your answers.
And of course, chatting with a tax professional to determine what is best for your unique situation is always a smart move.
The most important takeaway is to hang on to your receipts. You’ll need them to back up anything you claim.
