Ask Money

Tax credit and tax rebate

Chris Farrell Mar 5, 2009

Question: We’ve heard about the $13 a paycheck ‘tax credit’. What exactly is a ‘tax credit’ as opposed to the ‘tax rebate’? Will we have to pay the credit back to the IRS come April? Should we adjust our withholding so we pay enough tax and avoid paying penalties? Lisa, Pinckney, MI

Answer: I thought I knew the difference between a tax credit and a tax rebate, but I wasn’t quite sure. So I put your question to the financial advisor and professional polymath Scott Gislason at North Star Resource Group in Minneapolis. He’s a lawyer, a CPA (certified public accountant), a CLU (chartered life underwriter) and ChFC (chartered financial consultant).

Here what he says: “There’s an often overlooked difference between “tax credits” and “tax rebates”. Generally speaking, tax credits only offset tax balances due – meaning if you have low income and owe nothing in tax, you get no benefit from a credit. Whereas, tax rebates are paid to a taxpayer regardless whether a tax is payable. There is an exception to this rule – the earned income tax credit which operates like a rebate.”

Another exception: The new $8,000 credit for first time homebuyers. It’s a “refundable tax credit.” That means you can get a refund of the full $8,000 even if your total tax bill is less than that.

So, that’s the difference between a credit and a rebate. He adds: “Neither credits nor rebates should generate additional taxable income necessitating a change in withholdings or estimates.”

By the way, the change in withholding for the “Making Work Pay” credit is being done by your employer. You don’t need to do anything.

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