Topic 01 · 5 min read
Why a Credit Beats a Deduction
One reduces income; the other reduces the bill.
A deduction lowers the amount of income the tax is calculated on, so what it saves you depends on your bracket. A credit is subtracted from the tax itself, so a dollar of credit is a dollar off the bill no matter what you earn. In real estate the two work side by side: the same building project can generate both, and knowing which is which tells you what a project is really worth.
What to know
- A dollar is a dollar
- A $10,000 deduction saves a 24 percent taxpayer $2,400. A $10,000 credit saves everybody $10,000.
- Refundable versus nonrefundable
- Most investor credits are nonrefundable: they can take the bill to zero but will not pay you the difference. The unused part usually carries to another year.
- Credits often reduce basis
- Claim a rehabilitation or energy credit and the property's basis generally drops by some or all of it, which lowers depreciation later. The benefit is real but not free.
- Timing is part of the value
- A credit you cannot use for six years is worth less than one you use now. Sequencing matters as much as size.
The tax benefit
Understanding the difference lets you compare projects honestly instead of being dazzled by the biggest headline number.
Worked example
Same project, two numbers
A rehab produces $200,000 of extra depreciation and a $150,000 historic credit. At a 32 percent rate the depreciation is worth about $64,000; the credit is worth $150,000 — and it is the credit that decides whether the deal works.
Watch out for
- Nonrefundable credits stranded by a small tax bill can sit unused for years.
- Basis reduction quietly increases the taxable gain when you sell.
- State credits and federal credits follow separate rulebooks.
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