Tax Shield

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What is a 'Tax Shield'

A tax shield is a reduction in taxable income for an individual or corporation achieved through claiming allowable deductions such as mortgage interest, medical expenses, charitable donations, amortization and depreciation. These deductions reduce taxpayers' taxable income for a given year or defer income taxes into future years.

Tax shields vary from country to country, and their benefits will depend on the taxpayer's overall tax rate and cash flows for the given tax year.

BREAKING DOWN 'Tax Shield'

For example, because interest on debt is a tax-deductible expense, taking on debt can act as a tax shield. Tax-efficient investing strategies are a cornerstone of investing for high-net-worth individuals and corporations, whose annual tax bills can be very high. The ability to use a home mortgage as a tax shield is a major benefit for many middle-class people whose homes are a major component of their net worth.

Find out how tax shields can affect a company's balance sheet; read What is the formula for calculating weighted average cost of capital (WACC)?

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