In what aspect do tax credits differ from tax deductions?

Tax credits and tax deductions serve different purposes in the tax system. The correct answer highlights that tax credits directly reduce tax liability. When a taxpayer qualifies for a tax credit, the credit amount is subtracted directly from the total taxes owed, leading to a dollar-for-dollar reduction in tax liability. For example, if a taxpayer owes $1,000 in taxes and has a $200 tax credit, their new tax liability would be $800.

In contrast, tax deductions lower taxable income rather than directly reducing the amount of taxes owed. When a deduction is claimed, it decreases the income subject to tax, which may result in a lower tax bill, but not by the full dollar amount of the deduction. This means the impact of a deduction can vary based on the individual's tax bracket.

While tax credits can be refundable or non-refundable depending on the specific credit, the fundamental distinction remains that they provide a direct reduction in tax owed, making them generally more valuable than deductions on a dollar-for-dollar basis.