Supercharging Your Business Vehicle Expenses
Tax provisions that should be considered when developing vehicle acquisition and reimbursement policies, as well as other business expense tax strategies.
July 28, 2011
Business owners and employees (at least in California and Texas) often have a deep emotional attachment to their cars and trucks. A couple of the more common questions I receive from clients include:
The answers to these questions are always dependent on the specific facts associated with each taxpayer.
Following is a summary of the more important tax provisions that taxpayers should consider in developing their vehicle acquisition and reimbursement policies, as well as other business expense tax strategies.
We are all aware that an automobile comes with a variety of acquisition and annual operating costs. In many cases taxpayers are using automobiles for significant business purposes, but very few are maximizing the benefits of the tax deductions to which they are entitled. With relatively high gas prices, coupled with other increasing auto expenses, it is in the interest of any taxpayer to consider the impact to their business or personal tax returns and the net after-tax cost of these expenditures.
Actual Costs vs. Standard Mileage Rate
Generally vehicles are used for mixed purposes, which require tracking of personal and business miles. The business percentage is then applied to determine the allowable portion of expenses such as depreciation, gas, oil, tolls, parking, repairs, lease payments and insurance. These expenses are reported on IRS Form 2106 (PDF) for individuals or on their respective business tax return(s).
There are two general methods for claiming auto expenses:
If the taxpayer chooses to use the Standard Mileage Rate in the first year the auto is available for business use, then they can switch methods from year to year, but depreciation is deemed to have been claimed, even in a year when the Standard Mileage Rate is used.
Lease vs. Buy
Making the choice to lease or buy can get very complicated. Purchased vehicles generate deductions in the form of depreciation based on IRS tables, while lessees claim deductions on the business percentage of each lease payment. There are strict limits on annual depreciation of most purchased vehicles and relatively minor scale-backs required on leased vehicles.
Vehicles under operating leases are generally preferred when:
Another notable deduction should be considered if purchasing a vehicle weighing 6,000 pounds in gross vehicle weight (GVW) or more. Sample vehicles include the Hummer, Range Rover, BMW X5 and Chevy Tahoe. Depreciation can be accelerated using Section 179 and can include a first year deduction up to $25,000 of the cost of these vehicles, plus potential bonus and regular depreciation. Leased vehicles are not entitled to Section 179 or bonus deductions. For additional information please see: Contemplating Buying or Leasing an Auto?
For additional information on projected vehicle and fleet costs and management costs, visit Runzheimer International.
Vehicle Acquisition by Business or Individual
From a bookkeeping standpoint, a the business entity’s acquisition of a business vehicle is often preferable; however, if the entity has a loss for the year, Section 179 and bonus depreciation may be further limited.
Other considerations should include legal issues and insurance costs, which are often higher for vehicles titled in a business entity.
Accountable and Non-accountable Plans
Most employers have employee reimbursement plans in place for employees that incur auto and other business expenses. In general, reimbursed expenses are treated as taxable income (subject to Federal Insurance Contributions Act (FICA) and other payroll taxes) to the employee. This is not a tax-efficient structure for either the employee or employer. Additionally, the increased taxable income also increases payroll taxes for the employer and employee.
However, properly utilized, “Accountable Plans” (see IRS Publication 463) will generally provide significant benefits for both the employer and employee. In order to be classified as an Accountable Plan, Treas. Reg. Section 1.62-2(c)(1) states that the arrangement must require all of the following from the employee:
If the reimbursement does not meet all of the rules for Accountable Plans, full W-2 reporting is generally required.
See Tax Advantaged ‘Accountable Plans’ for Employee Business Expenses for additional details about “accountable plans.”
Travel and Transportation Expenses
Travel expenses are generally deductible when traveling away from home for business. Travel expenses paid or incurred for business purposes include, but are not limited to:
Meals and Entertainment Expenses
Generally, there are no deductions allowed for expenditures or facilities associated with “entertainment, amusement or recreation.” However, meals and entertainment expenses serving a bona fide business purpose are deductible, but typically are subject to the 50-percent limitation as provided in IRC Section 274(n). Meals with employees, clients, prospective clients and meals during business travel, usually fall into the 50 percent-deductibility category, but there are some exceptions that will allow the taxpayer to claim a 100 percent deduction:
No deduction is allowed for the portion of any expense for meals that is considered “lavish or extravagant.” If a portion of an expense for a meal is disallowed because that portion is considered lavish or extravagant, the remainder of the expense is still subject to the 50 percent limitation.
Taxpayers should segregate their business expenses into the aforementioned sub-accounts to ensure they are minimizing after-tax costs. For additional details on tax-deductible meals and entertainment expenditures, see Taking Another Tax Bite Out of Meal and Entertainment Expenses.
By simply implementing policies that better document and account for certain expenditures, taxpayers can maximize their tax deductions while improving their bottom line.
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