Some of the biggest sources of charitable donations come from corporations. While a donation made by an individual receives a tax credit, a donation made by a corporation receives an income deduction. Tax credits are different from tax deductions.
Let’s explain the difference by looking at a few examples.
Let’s assume we have an individual who has a marginal tax rate of 40%. If they had a $100 tax deduction, this means they can write off $100 from their income. They would normally have paid $40 in tax on that $100 of income. By having written down their income by $100, they conversely have saved $40 of tax in this case.
The value of tax deductions vary according to your marginal tax rate – so they are more valuable to higher income earners.
If this same person has a $100 tax credit, this translates directly into a $100 tax savings. So you can see that $1 of tax credit is worth more than $1 of tax deduction. But note that a $100 charitable donation does not earn a $100 tax credit. Rather credits are earned according to a prescribed formula. With donations for an individual up to $200 the tax credits are earned at the rate of 21.55% (Ontario). Therefore, a $100 donation would earn $21.55 in tax savings. (Note that over the $200 threshold, tax credits on charitable donations are earned at the rate of 46.41% or $46.41 per $100).
The value of tax credits do not vary with your marginal tax rate and you earn the same tax savings no matter what tax bracket you are in. The charitable donation tax credit is a non-refundable tax credit – which means the credit you earn can only serve to reduce any tax owing – after that point, they are worthless.
A tax credit that IS refundable, can not only reduce your tax liability owing, but also generate a payment to you once it has eliminated your taxes payable for the year.