By Christian BrinkleyLicensed NC Insurance Agent, NPN 22217190, NC Life & Health · Updated October 14, 2026 · 4 min read
Tax credits are one of the most valuable parts of the tax system. They can lower your tax bill directly. In some cases, they can even put money back in your pocket. That is why it helps to know how they work. A tax credit reduces the tax you owe, dollar for dollar. If you owe 2,000 dollars in tax and you have a 500 dollar credit, you now owe 1,500 dollars. That is a direct cut.
This is different from a deduction
A deduction lowers your taxable income. A credit lowers your tax itself. Because of that, a credit is usually worth more than the same amount as a deduction.
Here is a quick comparison. A 1,000 dollar deduction in the 12 percent bracket saves you about 120 dollars. A 1,000 dollar credit saves you 1,000 dollars. Same number on paper, very different result. That is why credits get so much attention at tax time.
There are two main types of credits. They are called nonrefundable and refundable. The difference matters a lot.
A refundable credit works differently
It can lower your tax to zero, and then the rest can come back to you as a refund. Say you owe 800 dollars and you have a 1,000 dollar refundable credit. The first 800 dollars wipes out your tax. The remaining 200 dollars comes back to you as a refund. That is why refundable credits are so powerful, especially for lower income households.
Some credits are partly refundable. That means part of the credit can come back as a refund, and part cannot. The rules are in the tax law for each credit. You have to check the specific credit to know how it works.
The Child and Dependent Care Credit is another common one
If you pay for child care so you can work or look for work, you may qualify. It can also apply to care for a disabled spouse or dependent. This credit is generally nonrefundable. It helps offset the cost of care, but it will not create a refund on its own.
The Earned Income Tax Credit, often called the EITC, is a refundable credit for workers with lower to moderate income. It is one of the largest credits for working families. The amount depends on your income, your filing status, and how many qualifying children you have. Workers without children can also qualify, but the amount is much smaller. The EITC is refundable, so it can lead to a refund even if you owe no tax.
The Saver's Credit, also called the Retirement Savings Contributions
If you contribute to an IRA, a 401k, or a similar account, you may qualify. The credit is nonrefundable. It is a nice bonus for saving, but it will not create a refund.
There are also credits for foreign taxes paid, adoption costs, and other specific situations. Most people will not need those. If you do, tax software or a tax professional can help you sort it out.
It also helps to know about phaseouts
Many credits shrink as your income goes up. They disappear completely above a certain income level. That is called a phaseout. Two people with the same credit can get different amounts if their incomes are different. Check the phaseout range for any credit you plan to claim.
Timing matters too. Most credits apply to the year you paid the expense or met the requirement. For example, child care costs count in the year you paid them, not the year you were billed. College tuition counts in the year you paid it. Keep receipts and statements that show the date and amount.
Questions people ask me about this
What are the saver's credit, also called the retirement savings contributions?
If you contribute to an IRA, a 401k, or a similar account, you may qualify. The credit is nonrefundable. It is a nice bonus for saving, but it will not create a refund. There are also credits for foreign taxes paid, adoption costs, and other specific situations. Most people will not need those.
What should I know about tax credits?
A deduction lowers your taxable income. A credit lowers your tax itself. Because of that, a credit is usually worth more than the same amount as a deduction. Here is a quick comparison. A 1,000 dollar deduction in the 12 percent bracket saves you about 120 dollars. A 1,000 dollar credit saves you 1,000 dollars.
What should I know about the child and dependent care credit?
If you pay for child care so you can work or look for work, you may qualify. It can also apply to care for a disabled spouse or dependent. This credit is generally nonrefundable. It helps offset the cost of care, but it will not create a refund on its own.
Get the next guide by email
New guides go out when they are published. No spam, no selling your address, unsubscribe any time.