Non-Refundable Tax Credit

A non-refundable tax refers to a category of tax credit that decreases one’s tax obligations dollar-for-dollar to zero while forfeiting additional credit without refunding it. It serves to encourage citizens to invest in education and retirement savings, switch to green-energy home improvements and avoid double taxation related to foreign income.

It only reduces payable tax but does not increase or create tax refunds. It must be applied before refundable credits to get maximum tax benefits. A few non-refundable credits, like general business credit (GBC), permit taxpayers to carry forward the unused credit to the subsequent tax years.

A nonrefundable tax credit means a tax incentive offered to taxpayers to minus a specific amount from their tax obligations to make it zero. However, it cannot lead to a tax refund even if the credit exceeds more than the taxpayer's liability. These credits often minimize tax bills and increase the total amount of refunds. A number of types of credit come under it, as listed in the table below: 

A taxpayer needs to go through the tax return booklet provided by the IRS to know if they qualify for the listed tax credit, its maximum value and if any excess credit would be refundable. By preparing a tax return worksheet, they can determine the exact quantum of tax credit they are eligible for. For more clarity regarding knowing a tax credit has a nonrefundable nature, one must consult the IRS website or its interactive tax assistant. Moreover, if one earns ≤ $64000, or has physical disabilities or is a non-native English speaker, then they can use the free tax preparation service of the IRS through volunteer income tax assistance (VITA)

After that, the taxpayer's amount of tax is reduced directly by these tax credits. Also, if their tax credit exceeds tax overdue then excess credit is eliminated without contributing to tax refund but only minimizing tax liability. 

As per the IRS, only specific categories of individuals and tax credits qualify for the same, as shown below:

• Child Tax Credit Eligibility: Individuals having children below 17 years related to taxpayers with valid social security numbers.
• Child and Dependent Care Tax Credit: For individuals having children below 13 years or dependents not able to look after themselves with earned income and incurred care expenses.
• Saver's Tax Credit: Available to adults contributing to a retirement plan, which is dependent on the annual adjusted gross income.
• Lifetime Learning Credit: Accessible to eligible taxpayers claiming 20% of the first $10000 of qualified expenses of education as per income limits.
• Energy Efficient Home Improvement Credit: Applicable to persons utilizing particular energy-savings home enhancement with each limited to their maximum credit.
• Other Nonrefundable Credits: These can be availed for mortgage interest, foreign taxes, and adoption expenses by individuals to encourage them to invest in these activities.

Maximizing refundable vs nonrefundable tax credits depends on various factors, as listed below:

• Claim all deductions available under the eligible tax bracket.
• Try taking advantage of every eligible tax credit one is.
• Make sure there does not exits any errors in the tax return.
• Choose the appropriate filing status with full accuracy.
• Carefully include dependent care expenses.
• Try itemizing deductions wherever possible. 
• Make a habit of contributing to a traditional IRA and donating to charitable trusts.
• Do contribute to a suitable health savings account to a maximum
• Claim nonrefundable tax credit first for various activities like energy-efficient house improvements.
• Then apply the refundable tax credit to reduce the tax obligation to zero.
• If the total tax liability gets fully offset even after unused refundable credits, then the taxpayer can hope to get a refund concerning the total. 
• Make sure to use the tax credits in the year they are generated; otherwise, they are wasted and not carried over.
• Consult with a fresh professional accountant to get a new perspective concerning maxed savings.

Let us use a few examples to understand the topic.

Example #1 

An online article published on 1st May 2024 discusses the best moment for buying an electric vehicle (EV). It explains that rising gas costs and the decreasing price of EVs, along with a substantial increase in EV charging stations across the US, have made it lucrative for buyers to buy EVs. Moreover, the Biden administration has enacted an inflation reduction act (IRA), 2022, which provides the owners of EVs with a nonrefundable tax credit of up to $7500 concerning new EVs and $4000 for secondhand EVs. 

Nevertheless, the eligibility to claim credit which is nonrefundable depends on different criteria like:

• Income limits like gross income of $150000 for new EVs & $75000 for used EVs related to single & married filing separately, for household head earning $225000 new & $112000 used, for marrying filing jointly it is $300000 new & $150000 used.
• Vehicle specifications like made in North America and fitted with a 7 KW-Hours battery.

Example #2

Let us imagine Jane, who resides in Canada, has been an employee of a solar panel installation company. She oversees the installation of solar panels in houses to reduce their dependence on traditional electricity. Moreover, the Canadian government also provides a nonrefundable tax credit as an incentive to houseowners using solar energy for domestic purposes as per nonrefundable tax credit Canada. 

Further, the tax credit has been capped at $2000 annually, reducing homeowner's tax bill dollars without making it a negative area. Therefore, one of Sarah's clients, Joe installed solar panels and qualifies for full tax credit of $2000. But Joe owes $1500 in taxes, so he will have no tax liability without getting $500 as a refund for the remaining unused part of the credit awarded.