Deduction Definition and Standard Deductions for 2023 and 2024

What Is a Deduction?

A deduction is an expense that can be subtracted from a taxpayer's gross income in order to reduce the amount of income that is subject to taxation. It lowers your taxable income for the year.

For example, if you earn $50,000 in a year and make a $1,000 donation to charity during that year, you are eligible to claim a deduction for that donation, reducing your taxable income to $49,000. The Internal Revenue Service (IRS) often refers to a deduction as an allowable deduction.

Taxpayers can itemize deductions, which means taking individual deductions one by one based on their family situation, charitable donations, medical expenses, and other individual financial actions taken throughout the year. Alternatively, taxpayers can choose to take the standard deduction, which is a set deduction based on tax filing status that is available to everyone.

Understanding Deductions

Taxpayers in the United States have the choice of claiming the standard deduction or itemizing their deductions. Claiming the standard deduction is easier and requires less paperwork and record-keeping. Taxpayers who take the standardized deduction do so on Form 1040 of their tax return. The standard deduction is a set amount based on tax filing status that reduces taxable income for the year.

An itemized deduction is an expense subtracted from adjusted gross income (AGI), which reduces taxable income and, therefore, the amount of taxes owed. Taxpayers who itemize deductions must use Schedule A Form 1040, an attachment to the standard 1040 form, and are required to fill in a list of their allowable deductions. Taxpayers who itemize deductions must keep receipts to prove these deductions in case they are audited.

Common itemized deductions include:

• Interest on a mortgage loan
• Unreimbursed healthcare costs
• Charitable contributions
• State and local taxes

Please consult a tax professional to determine whether a standard deduction or itemizing works for your financial situation.

Standard Tax Deductions in 2023 and 2024

Since the passage of the Tax Cuts and Jobs Act of 2017 (TCJA), the standard deduction has increased over the years to help keep pace with rising prices, or inflation.

Below are the standard deductions for tax years 2023 and 2024, depending on tax filing status:

The current standard deductions are a significant upgrade from levels before the Tax Cuts and Jobs Act was passed. For example, in the 2017 tax year, the standard deduction was $6,350 for single filers and $12,700 for married people filing jointly.

Deductions vs. Credits

A deduction is different from a tax credit, which is subtracted from the amount of taxes owed, not from your reported income.

There are both refundable and non-refundable credits. Non-refundable credits cannot trigger a tax refund, but refundable credits can.

For example, imagine that after reporting your income and claiming your deductions, you owe $500 in income tax; however, you are eligible for a $600 credit. If the credit is non-refundable, your tax bill is erased, but you do not receive any extra money. If the credit is refundable, you receive a $100 tax refund.

Some businesses qualify for business tax credits, which offset or reduce a company’s taxes owed to the federal government. Business tax credits are designed to encourage a particular behavior that benefits the overall economy, such as upgrading a building or factory and investing in research. While tax deductions reduce taxable income, business tax credits reduce the taxes owed.

Special Considerations

Business owners have a much more involved process during tax time since they're taxed on business profits, not business proceeds or revenue. That means documenting their costs of doing business to subtract them from the gross proceeds, revealing the taxable profits. The process is the same for the smallest businesses to the largest corporations, although the corporations at least have accounting departments to take care of the paperwork.

Businesses are required to report all of their gross income and then deduct business expenses from it. The difference between the two numbers is the business's net taxable income. Thus, business expenses work in a way that is similar to deductions.

Although the process of tracking expenses can be burdensome, the total amount of these expenses can help reduce a company's taxable income substantially, thus, lowering the taxes owed.

If you are a sole proprietor or own another type of pass-through business, you may end up both deducting business expenses from your gross proceeds and either itemizing or taking the standard deduction from your total taxable income.

The Bottom Line

A deduction is an expense that a taxpayer can use to reduce their gross income, thereby reducing the overall taxes they pay. The IRS allows for a variety of deductions that individuals can use to reduce their gross income.

Taxpayers are allowed to itemize their deductions or to take the standard deduction, which is much larger now than in the past thanks to the TCJA of 2017. It is best to consult a tax professional or financial advisor to see which method of deductions has the greatest benefit for your individual tax situation.