What Is a Tax Credit? 2023-2024 Guide - NerdWallet (2024)

Tax credits are the gold nuggets of the tax world. Qualifying for one feels better than finding $100 in your pants pocket. Here’s a brief look at how they work and an overview of the most common ones you may qualify for.

What is a tax credit?

A tax credit is a dollar-for-dollar reduction of a taxpayer's bill. This can reduce the tax they owe or in some cases increase their refund amount.

This differs from a tax deduction, which is a dollar amount the IRS allows taxpayers to subtract from their adjusted gross income (AGI) to lower their taxable income.

Tax credits are offered on both the federal and state levels to incentivize certain actions, such as purchasing an electric vehicle, or to offset the cost of certain expenses (e.g., raising or adopting a child). To qualify for a tax credit, taxpayers usually must meet a strict set of criteria relevant to that credit.

How do tax credits work?

Tax credits come in three categories: nonrefundable, refundable and partially refundable. These classifications tell you how the credit will be applied to the taxes you owe. The majority of tax credits are nonrefundable. Good tax software should be able to walk you through which credits you may qualify for and how to claim them.

Here's a breakdown of each type:

Nonrefundable tax credit

Nonrefundable tax credits reduce your tax liability by the corresponding credit amount. In other words, if you qualify for a $500 nonrefundable credit, your taxes owed are reduced by $500. Once you zero out your tax liability, though, you won't get any overage of the unused tax credit back as a refund.

Refundable tax credit

Refundable tax credits are highly sought-after tax benefits. And that's because claiming one can not only reduce your taxes owed but also result in a refund. If you owe fewer taxes than the credit amount, the overage will be returned to you in the form of a refund after you file your tax return. For example, if you owe $500 and qualify for a $700 refundable credit, you'll get that extra $200 refunded to you by the IRS.

Partially refundable tax credit

The last type of credit is a middle ground between the two mentioned above. Partially refundable credits can lower your tax liability by the corresponding credit amount, and if your tax bill is lower than the credit amount, you may be able to get a partial refund for any remaining overage — but only up to a certain amount. For example, if the credit is worth $1,000, but only $500 of that is refundable, you may either have your tax liability lowered by $1,000 or get up to $500 back as a refund if taxes owed are less than the credit amount.

Popular and new tax credits for 2023 (taxes filed in 2024)

Some of the most popular tax credits fall into five categories.

These tax credits apply to tax returns that were due April 15, 2024, or are due Oct. 15, 2024, with an extension.

Keep in mind that the sections below are just summaries. Tax credits have many rules, so it's a good idea to consult a tax professional if you're unsure whether you're eligible.

Child tax credit

For the 2023 tax year (taxes filed in 2024), the child tax credit could get you up to $2,000 per kid, with $1,600 being potentially refundable through the additional child tax credit. You may qualify for the full credit only if your modified adjusted gross income is under:

Child and dependent care credit

Generally, the child and dependent care credit covers up to 35% of up to $3,000 of child care and similar costs for a child under 13, spouse or parent unable to care for themselves, or another dependent so you can work — and up to $6,000 of expenses for two or more dependents.

Adoption credit

For the 2023 tax year, this covers up to $15,950 in adoption costs per child.

Earned income credit

This earned income tax credit could get you up to $7,430 in tax year 2023 depending on your tax filing status and how much you make. You don't need to have children to qualify — but generally, the more children you have, the higher your potential credit amount.

Premium tax credit

The premium tax credit is a refundable benefit for low-to-middle-income taxpayers that can help offset the cost of health insurance premiums from qualified health insurance marketplace plans. The credit is also unique in that taxpayers can choose to take the credit in advance to help manage premium payments throughout the year, or wait to claim the credit until they file their tax returns.

The saver’s credit

The saver's credit runs 10% to 50% of up to $2,000 in contributions to an IRA, a 401(k), a 403(b) or certain other retirement plans ($4,000 if filing jointly). The percentage depends on your filing status and income, but generally, it's something to look at if your AGI in 2023 was $73,000 or less if married filing jointly, $54,750 if head of household and $36,500 if single.

American opportunity credit

The American opportunity tax credit runs up to $2,500 per student for tuition, activity fees, books, supplies and equipment during the first four years of college. It is partially refundable, so if the credit lowers your tax bill to $0, you can get up to 40% (limited to $1,000) back as a refund.

Lifetime learning credit

The lifetime learning credit can get up to $2,000 for tuition, activity fees, books, supplies and equipment for undergraduate, graduate or even nondegree courses at accredited institutions.

Residential energy tax credits

On the other hand, the residential clean energy tax credit (sometimes called the solar tax credit for short) can get you up to 30% of the cost of solar energy systems, including solar water heaters, solar panels, battery storage technology and other home improvements.

Electric vehicle tax credit

For the 2023 tax year, the electric vehicle tax credit, also known as the clean vehicle credit, could get you up to $7,500 for buying a new electric vehicle and up to $4,000 for the purchase of a used one.