Saturday, October 29, 2016

Tax Credit vs. Tax Deduction

Tax Credit vs. Tax Deduction
(as explained in Commissioner of Internal Revenue vs. Central Luzon Drug Corporation, GR No. 159647, April 15, 2005)

Although the term is not specifically defined in our Tax Code, tax credit generally refers to an amount that is "subtracted directly from one’s total tax liability." It is an "allowance against the tax itself" or "a deduction from what is owed" by a taxpayer to the government. Examples of tax credits are withheld taxes, payments of estimated tax, and investment tax credits.

Tax credit should be understood in relation to other tax concepts. One of these is tax deduction -- defined as a subtraction "from income for tax purposes," or an amount that is "allowed by law to reduce income prior to [the] application of the tax rate to compute the amount of tax which is due." An example of a tax deduction is any of the allowable deductions enumerated in Section 34 of the Tax Code.

A tax credit differs from a tax deduction. On the one hand, a tax credit reduces the tax due, including -- whenever applicable -- the income tax that is determined after applying the corresponding tax rates to taxable income. A tax deduction, on the other, reduces the income that is subject to tax in order to arrive at taxable income. To think of the former as the latter is to avoid, if not entirely confuse, the issue. A tax credit is used only after the tax has been computed; a tax deduction, before.