Tax Credit vs. Tax Deduction: What's the Difference?

The main difference is simple: a tax deduction reduces the income you are taxed on, while a tax credit reduces the amount of tax you owe.

Both can lower your tax bill, but they do so at different stages of your tax return.

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What Is a Tax Deduction?

A tax deduction reduces the amount of your income that is subject to tax.

For example, imagine you earn $70,000 and qualify for a $5,000 deduction.

Your taxable income could be reduced to $65,000 before your income tax is calculated.

Common deductions can include eligible:

• RRSP contributions

• FHSA contributions

• Employment expenses

• Moving expenses

The amount a deduction saves you depends partly on your tax rate.

What Is a Tax Credit?

A tax credit is applied after your tax has been calculated and helps reduce the amount you have to pay.

For example, if your calculated tax is $10,000 and you qualify for credits worth $1,000 against that tax, your tax payable could be reduced to $9,000.

Tax credits can include amounts related to:

• Tuition

• Medical expenses

• Disability

• Home accessibility

• Eligible dependants

Canada has both refundable and non-refundable tax credits.

Refundable vs. Non-Refundable Tax Credits

A non-refundable tax credit can reduce your tax owing to zero, but any unused amount generally is not paid to you.

A refundable tax credit can reduce the tax you owe and may result in a payment or refund if there is credit remaining.

Tax Deduction vs. Tax Credit: Which Is Better?

Neither is automatically better.

A deduction reduces your taxable income. Its value can depend on your marginal tax rate.

A credit reduces your calculated tax according to the rules for that specific credit.

The important part is claiming every deduction and credit you are eligible for.

Do Tax Credits and Deductions Increase Your Refund?

They can.

If deductions or credits reduce your final tax bill below the amount already withheld from your paycheques, you may receive a larger refund.

However, a tax refund is not guaranteed. Your final result depends on your total income, taxes already paid and all deductions and credits you claim.

The easiest way to remember the difference is: a tax deduction reduces the income being taxed, while a tax credit reduces the tax itself.