A tax break is a reduction in tax liability, usually designed to act as an incentive for taxpayers. Tax breaks are structured directly into the tax code and may be instituted at any time by legislators acting to address economic problems or other concerns. Lists of available tax breaks are usually provided by tax authorities and also by finance websites. Accountants are typically familiar with the tax breaks provided in a given year and can help their clients reduce their tax liability as much as possible.
There are three different mechanisms used for offering tax breaks. The first is a tax exemption. An exemption excludes certain people or transactions from taxation, providing essentially a tax holiday. For example, a government encouraging citizens to buy back to school products might offer a tax exemption on school supplies, collecting no sales tax on these products to make them more affordable for members of the public.
A tax deduction is an amount someone is allowed to subtract from taxable income. Most nations have a standard deduction available all citizens and people can also receive deductions for certain types of authorized expenses. Deductions are commonly used by businesses to offset the costs of doing business; by allowing people to claim legitimate expenses with a tax break, tax authorities reduce the tax burden for businesses.
Finally, a tax credit is a tax break allowing people to directly subtract a set sum of money from the amount due in taxes. This is the most direct form of tax break, as it reduces the amount payable in taxes. Tax credits are often used to incentivize certain purchases, such as purchases of energy efficient appliances and supplies. People with taxes due will have to pay less in taxes with this type of tax break, while people with money due back from tax authorities can get a larger tax return by claiming a tax credit.
Governments use tax breaks for a variety of purposes, ranging from avoiding taxation of people with very low incomes with a standard deduction to promoting economic activity in a recession with tax credits designed to encourage people to make big purchases. People who want to take advantage of tax breaks will need to have accurate and thorough documentation to support their claims, including receipts and proof of installation, in the case of things like appliances. Attempts to claim tax breaks people have not actually qualified for are considered fraudulent and can result in legal penalties.