Guide to Tax Deductions and Credits

Most people who pay income tax either want to pay as little as the law allows or try to get the biggest refund they can after filing their tax return. Nevertheless, if you haven’t looked into ways to reduce your income taxes, tax season may see you paying more than the Federal Revenue Service (IRS) mandates.

While filing your income tax return, it’s crucial to take into account your eligibility for tax deductions and credits as well as whether you should itemize deductions in order to lower your taxable income or get a larger refund. Next, we’ll go over each of these strategies in more detail.

• You might be able to lower your taxable income or boost your income tax refund by using tax credits, tax deductions, and itemized income tax returns.
• While deductions are applied against your income, tax credits apply a dollar-for-dollar reduction to your tax liability.
• If your total taxable income would be lower if you itemized your deductions than if you took the standard deduction because they would be greater than the standard deduction.

Deductions vs credits

Your tax liability is offset on a dollar-for-dollar basis by tax credits. For example, if you have a $4,000 credit and owe $3,000 in taxes, and the credit is refundable, you will get a $1,000 tax refund. If you are entitled to a credit worth $4,000 and owe $3,000 in taxes, you won’t have to pay any taxes and will get a $1,000 tax refund.

Deductions, on the other hand, are offsets against your income. The tax savings are calculated using your top marginal tax bracket percentage. Taking a credit will save you more money in taxes than taking a deduction if your marginal tax rate is lower than the percentage credit allowance.

If, however, your marginal tax rate is higher than the credit percentage, a deduction will be more beneficial to you. The higher your income, the greater the tax savings you will enjoy from a deduction.

Take the time to research all your potential tax deductions

The adjusted gross income (AGI) is determined by taking into account various losses and expenditures, interest on student loans, and up to $3,000 of capital losses.

A number of expenses can be deducted from AGI as itemized deductions, including state and local taxes and charitable contributions. Most taxpayers tend to focus on the most well-known deductions. Despite this, you may qualify to take a number of lesser-known tax deductions.

Travel expenses for business

As a self-employed person, you may be able to deduct related travel expenses if you travel for work temporarily away from home. The IRS considers travel expenses ordinary and necessary expenses associated with traveling for work.

Your employer can reimburse you for your business travel expenses if you are an employee. Expenses not reimbursed by your employer cannot be deducted unless you are:

• Served in the armed forces as a reserve
• Performer who is qualified
• Government officials who are paid on a fee-basis
• Work expenses incurred by an employee with an impairment

Additionally, elementary and secondary school educators can deduct qualified expenses up to $300 per year.

Donations to charity

It might be possible to deduct the value of your donated items if you gave them to any qualified charitable organizations. Keep all receipts and other documentation as proof of the value of your donated items. A taxpayer who files a return as a single person in 2021 can still claim the standard deduction if they give $300 in cash to a charity that meets certain requirements. For the 2022 tax year, this deduction will no longer be available. Donations to charitable organizations must be itemized as deductions.

Previously, taxpayers could deduct up to 60 percent of their adjusted gross income (AGI) when they itemized their deductions.

Additionally, itemizers can deduct up to 100% of their AGI for cash contributions to qualifying organizations. Furthermore, contributions to non-qualifying organizations are not eligible for the increased cash contribution ceiling for itemizers, in addition to non-cash contributions.

If your donation exceeds $250, the IRS requires that you get a written confirmation from the charity of its value and amount, and you have to keep it. All charitable donations must be documented in writing. The confirmation should also indicate if you received any goods or services in return for your donation.

Interest on student loans

Taking out student loans to pay for tuition, room and board, books, and other qualified educational expenses may be deductible in two different ways. Both cases require that you be enrolled at least half-time in a program leading to a degree or recognized education credential at an eligible institution.

Due to the IRS’s view that this is a gift from your parents, you may be able to claim the interest on student loans paid in your name as a deduction. You may be eligible to deduct up to $2,500 of student loan interest that your parents paid for you as long as they do not claim you as a dependent on their income taxes.

The interest on your student loan may also be deducted by the IRS if it was used to pay educational expenses for yourself, your dependents, or your spouse. In order to determine adjusted gross income (AGI), taxpayers deduct up to $2,500 of student loan interest from gross income.

Consequently, non-itemizers can deduct these expenses while still claiming the standard deduction; however, if you are married but file separately or if you or your spouse are claimed as a dependent on someone else’s return, you cannot claim this deduction.

Students who file single returns with an AGI between $70,000 and $85,000 (modified for foreign income and other factors) are gradually limited (phased out) from the student loan interest deduction. If you file a joint return, your AGI must be between $145,000 and $175,000 to qualify for the deduction. If you are single and have an AGI of $85,000 or more ($175,000 or more if you file a joint return), you cannot claim the deduction.

Single taxpayers are expected to phase out their AGI between $70,000 and $85,000 by 2022, while joint taxpayers are expected to phase out between $145,000 and $175,000. If your employer pays interest on a student loan after March 27, 2020, but not before Jan. 1, 2026, you cannot deduct it as interest on a student loan.

Assistance with student loan cancellations and repayments

To help borrowers with student loan debt, several changes have been implemented, such as favorable tax treatment, temporary suspension of payments, and loan forgiveness.

Tax Treatment

When a student loan is discharged after Dec. 31, 2020, and before Jan. 1, 2026, the exclusion from income for forgiveness of student loan debt for postsecondary education is significantly expanded under the American Rescue Plan Act of 2021. You must have received this loan from a qualified lender in order to attend an eligible educational institution (one with a regular faculty, curriculum, and student body) in order to qualify for tax-free treatment.   

A loan is generally eligible for this tax treatment if it is made, insured, or guaranteed by the federal, state, or local government or its agencies, and if it is made, insured, or guaranteed by an education institution or a nonprofit organization that qualifies under section 501(c)(3) of the tax code. Moreover, loan cancellation under government programs that forgive student loan debt for certain professions and employers is tax-free; however, loan cancellation in exchange for services rendered by educational institutions or lenders does not qualify for tax-free treatment.

A nondiscriminatory employer plan that provides educational assistance to an employee up to $5,250 is now exempt from tax code provisions allowing payments of interest or principal for an employee’s qualified education loans. A payment made after March 27, 2020, but before Jan. 1, 2026, will be excluded from the exclusion.

Programs for suspending and forgiving loan payments

Since December 31, 2022, the Department of Education has suspended loan payments and collection on federal student loans due to the COVID-19 emergency. As a result of a federal court blocking a student loan forgiveness program, the White House announced at the end of 2022 that the pause had been extended. The new deadline is either:

1. Upon acceptance of the forgiveness program or the resolution of the litigation; or 60 days after it is approved
2. Within 60 days of June 30, 2023

A total of 50.8 billion dollars will be discharged automatically by the U.S. Department of Education for more than 323,000 students with a total and permanent disability (TPD) in August 2021.

You may be eligible for up to $17,500 in loan forgiveness on a Federal Direct Loan or Federal Family Education Loan (FFEL) if you have been a full-time teacher for five consecutive years, and completed an academic year in a low-income secondary school, elementary school, or educational service agency.

The Public Service Loan Forgiveness (PSLF) Program may be able to forgive loans owed by government employees and non-profits. The PSLF forgives the remaining debt owed on Federal Direct Loans after the borrower has made 120 qualifying monthly payments under a qualifying repayment plan.

Students with Direct Loans and those who have consolidated other student loans into Direct Loans are eligible for PSLF.

Losses caused by accidents, disasters, or theft

If the president of the United States declares a disaster, you may be able to deduct damage to your home, household items, and cars. For example, starting on December 10, 2021, people who live in certain counties in Kentucky and Ohio could get tax relief if they were hit by severe storms, straight-line winds, flooding, or tornadoes. On its website, the IRS tells people about disasters that have been declared by the federal government and whose victims may be eligible for tax relief.

Deductions are also available for theft losses suffered by individuals and businesses. To qualify as a theft loss, the theft must have been illegal under state law. The deductible amount is determined by special rules. Any insurance recovery or reimbursements must be adjusted when calculating the deduction.

If you are eligible, you can claim a deduction for many other items as well. Before claiming any of these items on your tax return, it is in your best interest to consult IRS publications to ensure you are eligible. The IRS provides special requirements for some deductions.

Don’t miss out on tax credits

You may be eligible for tax credits as another way to reduce your taxable income. Check below to see if you qualify.37

Credit for Earned Income

In 2022, all low-income workers who have dependent children can claim the earned-income tax credit (EITC), a refundable tax credit. A childless, low-income worker who has lived in the U.S. for more than half the year and is 19 or older, a student 24 or older, and a former foster or homeless youth aged 18 or older can also apply for the program. You cannot claim the EITC if you are claimed as a dependent on another taxpayer’s return.

Depending on your filing status, income level, and number of dependent children, you may qualify for a different credit percentage, earnings cap, and amount. For example, for tax year 2023, the maximum Earned Income Tax Credit amount for qualifying taxpayers with three or more qualifying children is $7,430, up from $6,935 for tax year 2022.

Amounts of the credit can be greater than the amounts of tax owed if the credit is greater than the tax owed. You must have earned income, but you cannot have investment income in excess of $10,300.

Credit for children

As a result of the American Rescue Plan Act (ARPA), the Child Tax Credit was increased, fully refundable, and distributed in advance payments to taxpayers for 2021.42 The changes to the Child Tax Credit, however, expired in 2021 and were not extended by the Congress. In 2022 and 2023, unless it is extended by new legislation, the Child Tax Credit will return to $2,000 per child under the age of 17.

From $1,500 in 2022, the maximum refundable portion of the credit will be $1,600 in 2023.

Tax credit for children and dependents

Children and Dependent Care Tax Credits (CDCTCs) are tax credits that help taxpayers cover the costs of caring for children 12 or under, disabled spouses, or qualified dependents while working or seeking employment (collectively, child care expenses). There is a phase out period for tax-payers with AGIs of $438,000 and higher that no credit is allowed. The credit is a percentage of earned income.

It is the same for all taxpayers regardless of filing status that the rate of the credit increased in 2021 for low- and moderate-income workers while decreasing it for higher-income workers. The CDCTC phased out by one percentage point per $2000 (or fraction thereof) above $125,000 for workers with AGIs below $125,000; it reaches 20 percent at AGIs of $183,000 and above. 20% of the AGI remains 20% between $183,000 and $400,000. CDCTC phases out at 0% at an AGI of $438,000. Once it reaches $400, it phases out one percentage point per $2000 (or fraction thereof).

It is expected that the CDCTC will revert to the previous rules in 2022 and 2023, which are lower expense ceilings, a 35% rate for households earning under $15,000, and a phaseout to 20% at $43,000.

Exclusion or credit for adoption

The adoption expenses incurred by a taxpayer for a child under 18 or a disabled individual qualify for tax benefits. For 2022, the maximum tax credit for such expenses will be $14,890 per child (increasing to $15,950 in 2023). If a taxpayer receives employer-provided benefits for such expenses, the benefits up to $14,890 per child can be excluded from income, but benefits over that amount are taxable.

It is possible to claim both the credit and the exclusion for adoption expenses, but the same expense cannot be claimed for both benefits. Adoptions of special-needs children are eligible for tax benefits even if the taxpayer has no qualified expenses. Special rules apply based on whether or not the adoptee is a U.S. citizen.

Expense tax credits for education

Tax benefits can be claimed on qualified educational expenses for postsecondary education with the Lifetime Learning Credit and the American Opportunity Tax Credit. The IRS provides a comparison chart online to help you determine which credit to claim. It also provides a detailed FAQ to assist you in determining which credit to claim.

Credit for lifelong learning

A person who has incurred qualified educational expenses during a given tax year at a qualified institution, including tuition, fees, and required books, can claim the Lifetime Learning Credit. There must be a degree or other recognized credential at the end of the educational program.

If you file as an individual, your modified adjusted gross income (MAGI) must be less than $80,000 for the tax year 2022. If you file jointly, you must have income of $160,000 or less. Individual taxpayers with MAGI of at least $90,000 or married couples with MAGI of at least $180,000 do not qualify for the credit.

Your $2,000 credit will be phased out if your modified adjusted gross income exceeds those amounts.

Credit for American Opportunity

If an eligible student is a taxpayer, the taxpayer’s spouse, or a dependent of the taxpayer, he or she is able to claim an American Opportunity Tax Credit for qualified education expenses. The maximum annual credit per eligible student is $2,500. The student must be enrolled at an eligible educational institution at least half-time for at least one academic term in order to qualify for this credit. The credit can be partially refundable in some cases. In the event that the credit reduces the taxpayer’s tax liability to zero, an additional 40% of any unused otherwise allowable credit, up to $1000, is refundable. In the case of a single taxpayer ($160,000 for a joint taxpayer), the amount of the American Opportunity Tax Credit is phased out. If your MAGI is $90,000 or higher if you are single ($180,000 or higher if you are married), you cannot claim an American Opportunity Tax Credit.

Tax credits can significantly reduce or even eliminate your taxes if you qualify for them. A tax refund may also increase in some cases even if there were no taxes withheld from the taxpayer’s income for the year. In some cases, taxpayers may be eligible for a refund even if they did not withhold taxes from their income for the year.

Tax Itemization: Should You Do It?

The taxpayer should decide whether to itemize deductions or not. You should itemize your deductions if you have more itemized deductions than the standard deduction and a lower total taxable income than you would have if you claimed the standard deduction. Even if you claim the standard deduction, you can still claim tax credits.

The standard deduction may not be an option in some cases, for example, if you and your spouse file a joint return and itemize deductions, your spouse must do the same.

When deciding whether to list your expenses or take the standard deduction, you should think about whether you had any large or unusual expenses or losses. To compare the deductible amount to the standard deduction, you need to figure out which expenses are deductible and how much the total deductible amount is. Deductible expenses include, but are not limited to:

• Expenses for medical and dental care that were not reimbursed
• Mortgage interest
• Losses incurred due to casualties or thefts that are not reimbursed
• Donations of cash or property to a charitable organization
• Marriage, childbirth, retirement, etc., are major life events.

Is it possible to claim the EITC, Child Tax Credit, and Child and Dependent Care Tax Credit?

You can claim all three of these tax credits if you meet the qualification requirements. It’s still a good idea to file a tax return even if you don’t owe taxes for the year if you qualify for any of these tax credits because they are all refundable—if you claim them on your tax return, any credit amount that exceeds your tax liability will be paid to you.

In order to deduct student loan interest paid in 2021, do I have to itemize deductions?

Student loan interest can be deducted without itemizing your deductions since 2021. You can deduct such interest and still claim the standard deduction without itemizing your deductions. It is subject to a maximum of $2,500 per student and phases out at higher income levels; it applies only to necessary educational expenses such as tuition, fees, room, and books. In order to claim the credit, you must file a joint return, and you cannot be claimed as a dependent on someone else’s return if you are married.

What if my child does not have a Social Security Number (SSN) but rather an Individual Taxpayer Identification Number (ITIN)?

Child Tax Credits (CTC) and additional child tax credits (ACTC) are not available to children who do not have an SSN.

Conclusion

When completing tax forms and preparing your tax return, it is important to follow the instructions carefully. As income levels increase, some deductions and credits are reduced (phased out to zero), while others, such as medical expenses, are only allowed to be deducted if they exceed a certain percentage threshold.

Tax experts can help you fill out your tax returns and get the most tax credits and deductions you are eligible for. The IRS provides extensive information about filing requirements, eligibility for, and limitations on tax benefits.