When the time comes to file your tax return, tax credits and deductions in Canada can help you save a lot on your tax bill. But you have to know how to use them properly.
In this guide, we look at what tax credits and deductions are, how they differ, how to calculate them, and more.
Key Takeaways
- Tax credits provide you with a direct reduction in your tax bill, and they are available in refundable and non-refundable versions.
- Tax deductions provide you with a reduction in your taxable income.
- While both help you reduce the tax you pay, tax credits are often more valuable.
What is a Tax Credit?
Tax credits reduce the amount you must pay on your taxable income by directly reducing your tax bill. For example, tax credits totalling $500 will reduce your tax bill by $500.
Tax credits can be both refundable and non-refundable, so knowing the difference is essential.
Refundable Tax Credits
With refundable tax credits, if you have a tax credit worth more than the tax you have to pay, you are refunded the difference.
Let’s say you have a refundable tax credit of $1,000, but you only have to pay $500 in taxes. In this case, you will get a tax refund of $500.
Even if you don’t owe any taxes, you may still receive a tax refund if it applies to you.
Some refundable tax credits include the Working Income Tax Benefit and the Medical Expense Supplement.
Non-Refundable Tax Credits
With non-refundable tax credits, you cannot receive money back even if the credit is larger than the tax you owe.
For example, if you have a tax credit of $600 and owe $300 in tax, there is a $300 excess here. But this is non-refundable, so you won’t receive any money. The credit eliminates the tax you owe, but you will not get a tax refund for the $300 that remains.
Some non-refundable tax credits include the Public Transit Tax Credit and Charitable Donations.
One non-refundable tax credit that everyone knows is the Basic Personal Amount (BPA). This is currently $15,000 for the 2023 tax year. If you earn less than this, you won’t pay any tax, but you won’t get a tax refund.
Tax Credit Calculation Example
The first thing to work out is how much tax you would pay based on your income. Canada has a progressive income tax system, and you are taxed at a higher rate of your income the more you earn. In addition, there are both federal and provincial income taxes.
The Government of Canada website sets out the percentages of your income you pay in tax based on your earnings. For 2023, the tax brackets are:
- Up to $53,359: 15%
- $53,359 up to $106,717: 20.5%
- $106,717 up to $165,430: 26%
- $165,430 up to $235,675: 29%
- Over $235,675: 33%
So, if you earn $60,000, you would pay 15% of $53,359 and 20.5% of the remainder ($6,641) as follows:
- Income: $60,000
- Taxable income at 15%: $8,003.85
- Taxable income at 20.5%: $1,361.41
- Total taxes: $9,365.26
Now, let’s say you have tax credits valued at $800. Using the above example, your tax bill would now be $9,365.26 minus $800, which is $8,565.26.
As you can see, it directly reduces the tax you must pay the government.
If you use tax software, it will normally ask you questions to find out about any tax credits you are due.
What is a Tax Deduction?
Now, let’s look at tax deductions. These reduce the amount of your income that is subject to tax. It sounds quite similar, but it’s very different.
These consist of expenses you can claim to reduce your taxable income, and they include deductions like:
- Moving Expenses
- Union, Professional, or Like Dues
- Child Care Expenses
- Support Payments Made
Tax Deduction Calculation Example
If you have a $5,000 tax reduction, this simply reduces the amount of income subject to tax by $5,000.
Looking at the above example, instead of having an income of $60,000 subject to tax, it would become $55,000. Your income would be taxed using the above income brackets as follows:
- Income: $60,000
- Tax Deduction: $5,000
- Taxable income: $55,000
- Taxable income at 15%: $8,003.85
- Taxable income at 20.5%: $336.41
- Total taxes: $8,340.26
Again, your tax software will help you with these, and there is usually a section on tax deductions.
Tax Credits vs Tax Deductions in Canada
When it comes to tax credits and tax deductions, is one better than the other? While both are good because they reduce your tax bill, tax credits are normally seen as better.
For example, if you qualify for $1,000 in tax credits, this is worth more than a $1,000 tax reduction. That’s because $1,000 in tax credits saves you $1,000.
A $1,000 tax reduction, on the other hand, only saves you the percentage of what you would pay in taxes on $1,000 extra of income. That could be as little as 15%, or $150.
A refundable tax credit is even better because you can get money back from the CRA.
However, even if one is slightly better, they are both useful, and you should take full advantage of them when you can.
What is the Downside of Receiving a Tax Refund?
Tax refunds are never bad things, but there is one downside: you are essentially getting back your own money that you have overpaid.
If you overpaid your taxes and this leads to a tax refund, this is money you could have saved and invested. In this case, it essentially hasn’t worked for you when you could have used it or spent it sooner.
Conclusion
Tax credits and tax deductions are always good to have. Everyone wants to hand over less money in taxes to the CRA, and these are both ways to help you do this.
But be aware of the differences. They are not the same, and sometimes one is better than the other.
Whatever the differences are, take full advantage of all the tax credits and deductions you qualify for. This means using good accounting software or getting help from an accountant.
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FAQs
While tax credits and tax deductions help reduce your tax bill, they are slightly different. The main difference is that tax credits provide you with a direct reduction on your tax bill, while tax deductions reduce your amount of taxable income.
A $100 tax credit is worth more than a $100 tax deduction. This is because the tax credit gives you a $100 saving on your tax bill, while the tax deduction only reduces your taxable income by $100.
Yes, you can claim both tax credits and deductions in Canada. You may qualify for many of these, so make sure you don’t miss any and reduce your tax bill.
Related: Free Tax Software in Canada.
