Tax Credit v. Tax Deduction
Although the term is not specifically defined in our Tax Code,[2] tax credit generally refers to an amount that is “subtracted directly from one’s total tax liability.”[3] It is an “allowance against the tax itself”[4] or “a deduction from what is owed”[5] by a taxpayer to the government. Examples of tax credits are withheld taxes, payments of estimated tax, and investment tax credits.[6]
Tax credit should be understood in relation to other tax concepts. One of these is tax deduction -- defined as a subtraction “from income for tax purposes,”[7] or an amount that is “allowed by law to reduce income prior to [the] application of the tax rate to compute the amount of tax which is due.”[8] An example of a tax deduction is any of the allowable deductions enumerated in Section 34[9] of the Tax Code.
A tax credit differs from a tax deduction. On the one hand, a tax credit reduces the tax due, including -- whenever applicable -- the income tax that is determined after applying the corresponding tax rates to taxable income.[10] A tax deduction, on the other, reduces the income that is subject to tax[11] in order to arrive at taxable income.[12] To think of the former as the latter is to avoid, if not entirely confuse, the issue. A tax credit is used only after the tax has been computed; a tax deduction, before.
[1] CIR v. Central Luzon Drug Corporation. G.R. No. 159647 April 15, 2005.[2] Republic Act No. (RA) 8424 as amended by RAs 8761 and 9010.
Likewise, the term tax credit is not defined in Presidential Decree No. (PD) 1158, otherwise known as the National Internal Revenue Code of 1977 as amended.
[3] Garner (ed.), Black’s Law Dictionary (8th ed., 1999), p. 1501.
[4] Smith, West’s Tax Law Dictionary (1993), pp. 177-178.
[5] Oran and Tosti, Oran’s Dictionary of the Law (3rd ed., 2000), p. 124.
[6] Malapo-Agato and San Andres-Francisco, Dictionary of Accounting Terms (2003), p. 258.
[7] Oran and Tosti, supra, p. 135.
[8] Smith, supra, p. 196.
[9] The itemized deductions considered as allowable deductions from gross income include ordinary and necessary expenses, interest, taxes, losses, bad debts, depreciation, depletion of oil and gas wells and mines, charitable and other contributions, research and development expenditures, and pension trust contributions.
[10] "While taxable income is based on the method of accounting used by the taxpayer, it will almost always differ from accounting income. This is so because of a fundamental difference in the ends the two concepts serve. Accounting attempts to match cost against revenue. Tax law is aimed at collecting revenue. It is quick to treat an item as income, slow to recognize deductions or losses. Thus, the tax law will not recognize deductions for contingent future losses except in very limited situations. Good accounting, on the other hand, requires their recognition. Once this fundamental difference in approach is accepted, income tax accounting methods can be understood more easily." Consolidated Mines, Inc. v. CTA, 157 Phil. 608, August 29, 1974, per Makalintal, CJ. Underscoring supplied.
[11] Smith, supra, pp. 177-178.
[12] Id., p. 196.