What does the term "tax credit" mean?

The term "tax credit" refers to a direct reduction of taxes owed on a dollar-for-dollar basis. This means if a taxpayer has a tax liability of $1,000 and then qualifies for a tax credit of $200, their tax liability is reduced to $800. This form of tax relief is highly beneficial because it directly decreases the amount owed rather than just lowering taxable income, as deductions do.

In contrast, a deduction from taxable income reduces the amount of income subject to tax but does not directly affect the taxes owed. A refund of overpaid taxes refers to the money returned to taxpayers if they have paid more than their tax obligation, but it is not the same as a tax credit. An addition to taxable income would increase the amount someone would be taxed on, which is unrelated to the concept of tax credits. Hence, the defining feature of a tax credit being a direct subtraction from tax liability makes it distinct and powerful as a tax benefit.