How a Tax Credit Works

A reader on the Agweb.com site left an interesting comment about my posting on the Ag Security Credit.  His question was whether an income tax credit needs to be recorded as income in the year after you take the credit.

The answer in almost all cases is no.  If a farmer takes a business tax credit such as the Ag Security Credit, they reduce their income taxes by the amount of the credit.  Since you can not deduct federal income taxes in arriving at your farm or other income, by default, a reduction in your federal income tax would not result in additional taxable income to you.

Also, there seems to be some confusion in how a tax credit works versus a deduction.  A credit is a 100% offset against your income tax while a deduction only offsets your tax based upon what tax bracket you are in.  For example, if you receive an income tax credit of $1,000 and your tax bill is at least a $1,000, then you will reduce your taxes by $1,000.  However, if you have a deduction of $1,000 and you are in the highest current income tax bracket of 35%, then you will only offset your tax bill by $350.

Please read the post at the Agweb.com site for further clarification.