Your Wheels and Tax Deals
© by Fred W. Daily
One of the best tax goodies for self-employed folks is to get Uncle Sam to
share the cost of owning and operating a vehicle. Most small time operators use the same
vehicle for both business and personal use. To get the best tax breaks, the car should be
used more than 50% for business. If this is you, then here's what you should know.
Special tax code rules apply to motor vehicles used in business. Two
alternative methods are available for tax deducting car expenses. One is to deduct the
expense using the "mileage method." Like it sounds, you simply multiply the
number of miles driven for business times the IRS allowed rate for that year (32.5 cents
in 1998). This is pretty straightforward, so let's move on to the second way to get this
prime tax benefit: the "actual expense" method. Here you can depreciate (write
off)the purchase price over the time you are in business. You also can deduct the
vehicle's operating costs--gas, tune-ups, etc.
Using the "actual expense" method, however, there are caps (annual
dollar limits) on motor vehicle deductions. The "cap" means you can't take more
than $3,160 for the first year the car is used for business, $5,000 for the second year,
$2950 in the third year and $1,775 for the fourth and subsequent years. And, you must
reduce these amounts by the percentage of any personal use. For instance, if you use your
car 25% of the time for personal travel, the first year's depreciation deduction would
drop to $2,370. The effect of the caps is to extend the period of time over which cars
costing more than $15,800 are written off to 6 years or longer. A Mercedes might take 20
years or more to fully depreciate. As you would expect, the tax code doesn't make figuring
out the annual depreciation deductions easy. Thankfully, IRS tables are available to guide
you through the process, or better yet, tax software has the tables and rules built in so
you don't have to make the annual depreciation calculation.
But, the tax rules are more lenient for electric vehicles, trucks and heavy
multi-purpose vehicles, which are termed SUV's in the tax codeChevy Suburban type
behemoths. If you have a qualifying SUV, you can fully depreciate it in six years, no
matter what the cost.
Leasing cars work a little differently, but offers similar or even better tax
advantages over ownership. Business car lease expenses can be deducted, no matter how much
the monthly payment. This beats the stingy "caps" mentioned above. There is one
catch: IRS leasing tables provide that some amount of income must be attributed personally
to the lessee in order to equalize the tax advantage of leasing. No worries, in reality,
the added income is much less than the cost of owning and operator a similar car. And,
starting this year, the "mileage method" can be used with leased cars. This
makes sense if you drive a great number of miles each year, say 30,000 or more.
Making the choice of how to tax deduct a business vehicle is tricky. For
details, see my book Tax Savvy for Small Business published by Nolo Press.
By: Frederick W. Daily, Tax Attorney,
John Raymond, Bankruptcy Attorney, and
Allan H. Rosenthal, paralegal.
All of the three have offices in San Francisco.
(This article was originally written for tax
practitioners who represent clients before the IRS. But the information
presented here is valuable for all taxpayers.)
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