# Tax Shield: Definition, Formula for Calculation, and Example

## What Is a Tax Shield?

A tax shield is a reduction in [taxable income](https://www.investopedia.com/terms/t/taxableincome.asp) for an individual or corporation achieved through claiming allowable deductions such as mortgage interest, medical expenses, charitable donations, [amortization](https://www.investopedia.com/terms/a/amortization.asp), and depreciation. These deductions reduce a taxpayer's taxable income for a given year or defer income taxes into future years. Tax shields ultimately [reduce the amount of taxes owed](https://www.investopedia.com/family-tax-tips-8709018) by an individual or business.

### Key Takeaways

*   A tax shield reduces taxable income by allowing taxpayers to claim deductions.
*   Common tax shields include mortgage interest, medical expenses, charitable donations, amortization, and depreciation.
*   Tax shields lower the amount of taxes owed for individuals or businesses.

![Tax Shield: A reduction in taxable income by claiming allowable deductions such as mortgage interest and medical expenses.](https://www.investopedia.com/thmb/pbKXN894163JzStZJU1Ipdl_ePA=/1500x0/filters:no_upscale():max_bytes(150000):strip_icc()/taxshield.asp-final-0b75786adb5d4b42995c89c62cf411c8.png)

*— Investopedia / Julie Bang*

## Understanding a Tax Shield

A tax shield refers to the ability of specific [deductions](https://www.investopedia.com/terms/d/deduction.asp) to shield portions of a taxpayer's income from taxation. Tax shields vary from country to country, and their benefits depend on the taxpayer's overall tax rate and cash flows for the given [tax year](https://www.investopedia.com/terms/t/taxyear.asp).

For example, because interest payments on certain debts are a tax-deductible expense, taking on qualifying debts can act as tax shields. Tax-efficient investment strategies are cornerstones of investing for high [net-worth](https://www.investopedia.com/terms/n/networth.asp) individuals and corporations, whose annual tax bills can be very high.

### Formula for Tax Shield Calculation

To calculate the tax shield, use the following formula:

                     **Tax Shield = Value of Tax-Deductible Expense x Tax Rate**

So, for instance, if you have $1,000 in mortgage interest and your tax rate is 24%, your tax shield will be $240. You can deduct up to $750,000 of home [mortgage interest](https://www.investopedia.com/terms/m/mortgageinterest.asp) in 2024. In 2025, this number rises to $1 million.

## Tax Shields As Incentives

The ability to use a [home mortgage](https://www.investopedia.com/terms/h/home-mortgage.asp) as a tax shield is a major benefit for many middle-class people whose homes are major components of their net worth. It also provides incentives to those interested in purchasing a home by providing a specific tax benefit to the borrower.

Similarly, [student loan interest](https://www.investopedia.com/terms/s/slid.asp) serves as a tax shield. The interest paid on student loans is tax-deductible, meaning it can reduce a taxpayer’s taxable income, ultimately lowering their tax burden.

## Tax Shields for Medical Expenses

Taxpayers who have paid more in medical expenses than covered by the standard deduction can choose to [itemize](https://www.investopedia.com/terms/i/itemizeddeduction.asp) in order to gain a larger tax shield. An individual may deduct any amount attributed to medical or dental expenses that exceeds 7.5% of [adjusted gross income](https://www.investopedia.com/terms/a/agi.asp) by filing [Schedule A](https://www.investopedia.com/terms/s/schedulea.asp).

## Tax Shields for Charitable Giving

Similar to the tax shield offered in compensation for medical expenses, charitable giving can also lower a [taxpayer’s obligations](https://www.investopedia.com/terms/t/taxliability.asp). In order to qualify, the taxpayer must use itemized deductions on their tax return. The deductible amount may be as high as 60% of the taxpayer’s adjusted gross income, depending on the specific circumstances. For [donations](https://www.investopedia.com/articles/personal-finance/041315/tips-charitable-contributions-limits-and-taxes.asp) to qualify, they must be given to an approved organization.

## Tax Shields for Depreciation

The depreciation deduction allows taxpayers to recover certain losses associated with the [depreciation](https://www.investopedia.com/terms/d/depreciation.asp) of qualifying property. The deduction can apply to tangible property, such as vehicles and buildings, as well as to intangible assets, such as computer software and patents.

In order to qualify, the depreciation must be associated with an asset used in a business or income-generating activity, and have an expected lifespan of more than one year. Other conditions may affect the ability for depreciation to be deductible, including, but not limited to, the duration of ownership of the asset and whether the asset was used to build capital improvements.

## What Is the Formula for Tax Shield?

 The formula for tax shield is, _Tax Shield = Value of Tax-Deductible Expense x Tax Rate._

## Is Tax Shield the Same As Tax Savings?

While tax shields result in tax savings, the two concepts are not exactly the same. Tax shields reduce taxable income, which leads to a lower overall tax liability, effectively saving the taxpayer money. The lower the taxable income, the lower the tax owed, which is how tax shields translate into tax savings.

## What Is a Tax Shield Example?

A common example of a tax shield is mortgage interest. A person buys a house with a mortgage and pays interest on that mortgage. That interest is tax deductible, which is offset against the person's taxable income. This then reduces their overall tax burden.

## The Bottom Line

Tax shields allow taxpayers to reduce the amount of taxes owed by lowering their taxable income. By taking advantage of deductions like mortgage interest, medical expenses, charitable donations, and depreciation, taxpayers can significantly reduce their tax bills. When [filing taxes](https://www.investopedia.com/ask/answers/051415/what-are-different-ways-i-can-file-my-income-tax-return.asp), ensure you're claiming these deductions to save money during tax season.

> **Article Sources**
>
> 1.  Internal Revenue Service. "[Publication 936, Home Mortgage Interest Deduction](https://www.irs.gov/pub/irs-pdf/p936.pdf)," Page 9.
>     
> 2.  Tax Foundation. "[The Home Mortgage Interest Deduction](https://taxfoundation.org/research/all/federal/home-mortgage-interest-deduction/)."
>     
> 3.  Internal Revenue Service. "[Topic No. 456, Student Loan Interest Deduction](https://www.irs.gov/taxtopics/tc456)."
>     
> 4.  Internal Revenue Service. "[Topic No. 502, Medical and Dental Expenses](https://www.irs.gov/taxtopics/tc502)."
>     
> 5.  Internal Revenue Service. "[Publication 526, Charitable Contributions](https://www.irs.gov/pub/irs-pdf/p526.pdf)," Pages 2-3, 14-15.
>     
> 6.  Internal Revenue Service. "[Publication 946, How To Depreciate Property](https://www.irs.gov/pub/irs-pdf/p946.pdf)," Page 3.
>     
> 7.  Internal Revenue Service. "[Publication 946, How To Depreciate Property](https://www.irs.gov/pub/irs-pdf/p946.pdf)," Pages 4-5.
>     
> 8.  Internal Revenue Service. "[Topic No. 505, Interest Expense](https://www.irs.gov/taxtopics/tc505)."