The Essentials of Car Tax Write-Offs
As a business owner, you have probably thought about the pros and cons of purchasing a car, truck or SUV so that you can benefit from car tax write-offs. After all, why not buy something if you need it, can afford it, and can save money on taxes?!
This quick guide aims to help you navigate the most common auto tax write-off questions I receive from my clients.
What Car Usage is Tax Deductible?
As you know, tax write-offs allow you to deduct certain business expenses from your taxable income.
For vehicles used in your business, understanding what constitutes a deductible expense is crucial for optimizing your tax liability.
To claim any portion of car expenses as a tax write-off, at least a portion of its use must be for business, such as traveling between work sites or client meetings. Personal use is not deductible.
And unfortunately, no… business use does not include commuting to and from your business’s office. That’s considered personal.
PRO TIP! With proper planning, you could set up a dedicated administrative home office which allows you to deduct travel from your home office to your work office.
Two Tax Deduction Methods For Consideration
You can calculate your car tax deductions using one of two methods: 1) Standard Mileage Rate and 2) Actual Expenses.
It’s highly recommended to choose one method when you begin using the auto for business.
When the actual expense method is used, it must be used for the life of the vehicle. While it’s possible to go from Standard Mileage to Actual, it can get quite complicated.
Method 1: The Standard Mileage Rate
For 2023, the IRS set this rate at 65.5 cents per mile. This method is simpler and usually preferred when business usage is under 50%. It avoids complexities like depreciation recapture which can occur if business use drops below 50% after claiming accelerated depreciation in earlier years.
Method 2: Actual Expenses
Tallying up all car-related expenses for business use including the following:
- Maintenance and Repairs: Regular upkeep costs for business use.
- Insurance and Registration Fees: Partial deductions are often available.
- Depreciation: If you own the vehicle, you can claim depreciation over time.
- Lease payments
- Fuel Costs
How to Choose the best Tax Deduction Method for Your Car Use
No matter which tax deduction method you use, you should create clear records of personal use vs. business use.
You can download a mobile app that help you create clear lines between these uses. These apps even integrate with accounting software like QuickBooks, and certain QuickBooks Online subscriptions include it as a feature on the mobile app.
Or, you can choose to go old school and use a physical book to log your mileage.
Regardless, you will need to track odometer readings that show when you used the vehicle for business purposes.
When to use Standard Mileage Rate:
A general rule of thumb is that you should probably use the standard mileage rate if your annual business usage is ever likely to be less than 50%. The primary reason is that accelerated depreciation methods such as Bonus and Section 179 Depreciation are not allowed under lower business use.
Furthermore, if after the first year, your business use drops below 50%, you will get stung by depreciation recapture if Bonus or Section 179 depreciation was claimed in a prior year.
There are other times when your business usage is greater than 50% and you would use the standard mileage rate. This would typically be when your vehicle is on the less expensive side and you drive a considerable amount of business miles. Over several years, the standard mileage rate could exceed the benefit of using actual expenses.
If your business is taxed as a Schedule C, the deduction on the tax return is straightforward. However, obtaining the deduction for owners of S Corporations is not straightforward. It requires setting up an accountable plan.
When to use Actual Expenses:
When business use of an auto is expected to be over 50% year after year, it is generally advisable to use the actual expense method. Run all expenses through the business bank account or credit card. That includes, fuel, insurance, maintenance and auto loan or lease payments.
The area that creates the most confusion and complication is depreciation: specifically bonus and section 179 depreciation. I’ll discuss that in a different post.
Using the actual expense method doesn’t necessarily translate to 100% deduction of all costs incurred. You need to reduce deductions proportional to your personal use.
Example: if all auto expenses incurred for a year are $10,000 and personal use is 20% for the year, then your business deduction is $8,000.
Final Thoughts on Car Tax Write-Offs
Navigating auto tax write-offs involves understanding the nuances of what can be claimed and keeping accurate records. The choice between the standard mileage rate and actual expenses depends on your vehicle’s business use percentage and other factors.
Ultimately, this is a decision for you to make alongside a trusted tax professional that knows your situation.
