The use of a vehicle is often an ordinary and necessary expense of conducting business and, as such, is eligible for a deduction. Consider these aspects to see if your vehicle qualifies for a deduction.
What Vehicle Expenses Are Tax Deductible?
Transportation Versus Travel
When figuring out if you can deduct your vehicle expenses, the first important thing is the difference between transportation and travel.
- Transportation – You incur transportation expenses (normally mileage) you incur within the metropolitan area where your business is located. You typically have one commute from your house to your office and one from your office to your house. Commuting miles are never deductible. Once at your office, however, any miles driven while conducting business are generally deductible.
If your office is at home and is your main place of business, there are no commuting miles, so all business-related miles are deductible. In this case, the home office is the place used exclusively and regularly for administrative and management activities. (Note: this is not a discussion of the deductibility of your home office – that’s another topic altogether).
- Travel – You incur travel expenses away from your tax home. In general, all miles driven while traveling are deductible.
Any deduction allowed for the use of your vehicle is limited to the amount it is used for business purposes.
The calculation of business usage is very simple:
- Determine the mileage on your vehicle at the beginning of the tax year. Then, find the ending mileage at the end of the tax year. The difference is the total miles driven for the year.
- Keep a record of how many miles you drive for business purposes.
- Divide the business miles by the total miles to get the percentage of your business usage.
Example: Total miles driven is 10,000. Business miles driven is 4,000. Business usage of the vehicle is 40%.
Standard Versus Actual Mileage Deduction
Once you have determined the business usage of your vehicle, you can figure out your mileage deduction. The IRS allows two methods for doing this.
- Standard Mileage Deduction – This IRS vehicle expenses deduction is intended to simplify the process. The rate of this deduction changes each year ($0.585 for 2022 and increased to $0.625 effective July 1, 2022). The dollar amount is multiplied by the number of business miles driven for the year.
In our previous example, 4,000 business miles times $0.585 equals a vehicle deduction of $2,340.
Standard mileage deduction covers the following:
- Lease payments
- Repairs and maintenance
- Gas and oil
Standard mileage deduction does not include interest on a loan to purchase the vehicle, parking, or tolls – the last two can be deducted separately (subject to the business usage percentage discussed earlier).
- Actual Mileage Deduction – With this deduction, you can deduct the actual expenses incurred, once again subject to the business usage limitation. The actual expenses you can deduct include:
- Lease payments
- Repairs and maintenance
- Gas and oil
- Garage rent
For example, the vehicle incurred $3,000 of “actual expenses.” The vehicle deduction would be $3,000 times 0.40 (the business usage calculated earlier) which gives us a vehicle deduction of $1,200.
In this example, the standard mileage deduction is better. This will almost always be the case.
A Few Rules to Remember
- The standard mileage deduction must be elected in the first year of the vehicle being placed in service of the business if you want to use it in subsequent years.
- If you choose the actual mileage deduction in the first year, it must be used for the entire time the vehicle is in the business. You cannot change the standard mileage deduction for that vehicle.
- If you start with standard mileage, you can change to the actual mileage deduction in subsequent tax years if you determine that would give you a better result. (So, the standard mileage option allows you to switch back and forth, but starting with the actual mileage deduction does not).
Besides calculating business usage, recordkeeping is probably the most important aspect of the vehicle expense deduction. Furthermore, proper recordkeeping is the basis for determining business usage.
The IRS is very specific about recordkeeping. In general, they state that mileage records must be in writing and recorded in a timely manner.
So, the best way to satisfy these requirements:
- Maintain a log (written or digital) recording the vehicle’s mileage at the beginning and end of the year.
- Record the beginning and ending mileage for each trip and the total miles driven for business purposes (remember, commuting miles don’t count).
- For each trip, note the business purpose and the business relationship.
- Do this after each trip to keep records in a timely manner.
Who Gets the Deduction And Who Should Own The Vehicle?
Who gets the deduction? Or, who should own the vehicle? The answers depend on the business entity type, how much paperwork the business wants to deal with, and the business usage of the vehicle.
Vehicle Owned by a Sole Proprietor
A sole proprietor or a single-member LLC taxed as a sole proprietor is the business, and the business is them. Ergo, the business does not need to have the vehicle in its name since the owner and the company are the same.
Once you calculate vehicle deduction, the owners take it on their personal tax return on Schedule C with all other business income and expenses.
For any other business type – Partnership, S Corporation, C Corporation, or LLC taxed as any of these – the deduction depends on who owns the vehicle.
Vehicle Owned by the Business Owner/Employee
Suppose an employee or a business owner owns the vehicle. In that case, the owner/employee performs the calculation illustrated above and submits an expense report to the company for a reimbursment. The business takes the deduction when it writes the check, and there is no income to the owner/employee.
Some rules must be followed for this to be a valid deduction. Specifically, the company should have a written reimbursement policy – an Accountable Reimbursement Plan – outlining how this will work.
It is the responsibility of the owner/employee to keep proper records to support the reimbursement (more on this later).
(If you don’t have an Accountable Reimbursement Plan, any reimbursement made to the owner/employee must be included as income on their W-2 for the company to get the deduction).
Vehicle Owned By the Company
If the company provides a vehicle to an employee, the company records the vehicle on the books. Depreciation and all actual expenses are deducted. This is best when the vehicle is used 100% for business purposes.
If an employee uses the vehicle for any personal reason, the employee must include the usage value on their W-2.
There are very complex depreciation rules involving a vehicle owned by a company. Limitations exist on how much can be depreciated each year and can be increased taxes if the business use of the vehicle falls below 50% in a year.
For this reason, it is almost always best to take the vehicle deduction as a reimbursement, as described above.
Vehicle Expenses and Tax Deductibles
Vehicle expenses are legitimate business expenses. However, in the eyes of the IRS, such deductions have been and will continue to be a focus of concern.
Taking a deduction for vehicle expenses does not necessarily trigger an audit. However, if you are audited, they will scrutinize vehicle expenses aggressively.
Consult with your tax advisor to ensure you address your specific situation. To make sure your company takes full advantage of all possible tax deductions and credits, you should consult a business and tax professional such as a Certified Public Accountant or Enrolled Agent.