WOW! IRS
Sets 2005 Mileage Rate at 40.5 Cents
The high cost of gasoline and the
higher prices on cars makes for a niche 8%
increase in the standard mileage rate from 37.5
cents this year to 40.5 cents in 2005. This
raises a number of questions:
- Should you use
the standard mileage rate to deduct the
cost of your vehicle?
- Do you qualify to
use the standard mileage rate?
- What happens when
you sell or otherwise dispose of a
vehicle on which you claimed the standard
mileage rate?
This article answers
these questions and helps you make the right
decisions to ensure your maximum and proper
vehicle deductions.
Should You Use the
Standard Mileage Rate?
You have a choice.
You may use either the
- Standard mileage
rate of 40.5 cents (2005 rate), or
- Actual expenses.
The standard mileage rate
is in lieu of all operating expenses and
depreciation or lease payments. If you
choose the 2005 standard mileage rate, you deduct
40.5 cents a mile plus
- parking,
- tolls,
- personal property
taxes,
- interest, and
- loss on sale of
the mileage rate vehicle.
To determine which is
better – and how much better – you need
to compare the standard rate with your actual
expenses. To ensure that you get this
comparison right,
- compare expenses
for the full period you plan to keep the
vehicle (say three or five years), and
- compare gains and
losses on the sale when you dispose of
this vehicle.
Make the comparisons with
after-tax cash. Vehicle expenses reduce
business income and that reduces your
self-employment taxes. Gains and losses go
on the sale of business asset form (IRS Form
4797) and do not affect self-employment taxes.
Example: Shirley
Jones, a married woman, pays federal income taxes
at the rate of 35% on her and her husband’s
taxable income. She also pays the
self-employment tax of 15.3% on her net
self-employment income of $87,000.
1. When
calculating her after-tax cash savings using
either the standard mileage rate or the actual
expense method, Shirley uses 50.3% as her tax
rate for the four years she expects to own the
vehicle.
2. When
calculating her after-tax cash gain or loss from
selling her business vehicle at the end of four
years, Shirley uses the 35% rate.
Look at these five
planning tips to help you get the most out of
your vehicle expenses.
Planning tip 1:
Unlike employees who may not deduct interest,
self-employed taxpayers may deduct interest on
their car loans regardless of whither they use
the standard mileage rate or the actual expense
method for deducting their vehicle costs.
Planning tip 2: If
you use a home-equity loan to pay for some or all
of your business vehicle, you treat the business
part of the loan as a business loan and deduct
the interest as a business expense.
Planning tip 3: In
addition to the IRS mileage rate, you may deduct,
as itemized rate, you may deduct, as itemized
deductions, any state and local personal property
taxes you pay on your standard-mileage-rate
vehicle.
Planning tip 4:
The new 2004 law allows you a choice:
- Deduct state and
local general sales taxes, or
- Deduct state and
local income taxes.
IRS Publication 17 for
the year 2004 says that you may include the sales
taxes on your vehicle as part of your itemized
sales tax deduction. If you choose not to
deduct sales taxes, you add the sales taxes to
your vehicle’s basis and get the benefit
when you dispose of the vehicle, as discussed
below.
Planning tip 5:
Pay attention to your gain or loss on the sale of
your standard-mileage-rate vehicle. First,
you need to recognize that the mileage rate
includes depreciation. Therefore, you have
adjusted basis. That means you have gain or
loss on sale. Usually, this is a loss,
which is to your benefit. (Take careful
note of the last major section of this article.)
Do You Qualify to Use
the Standard Mileage Rate on Your Vehicle?
You may not use the
standard mileage rate if you
- operate your
business as a corporation and claim the
vehicle as a corporate expense,
- use the vehicle
for hire, like a taxicab,
- use five or more
vehicles at the same time in your
business,
- claim a
depreciation deduction on the vehicle
using any method other than straight line
(like MACRS or bonus depreciation),
- claim Section 179
expensing on any part of the vehicle, or
- claim actual
expenses on a leased vehicle.
The new 2004 rules allow
you to use the standard mileage rate on up to
four vehicles at the same time. The old
rule put the limit at two vehicles.
What Happens When You
Sell or Otherwise Dispose of a Vehicle on Which
You Claimed the Standard Mileage Rate?
You depreciate your
vehicle when you use the standard mileage
method. The rate of depreciation is as
follows:
Year(s)
Cents per Mile
2005
17.0
2003-2004
16.0
2001-2002
15.0
2000
14.0
1994-1999
12.0
1992-1993
11.5
1989-1991
11.0
1988
10.5
1987
10.0
1986
9.0
1983-1985
8.0
1982
7.5
1980-1981
7.0
For tax years after 1989,
the depreciation rates apply to all business
miles. For tax years before 1990, the
depreciation rates apply to the first 15,000
miles.
Example 1: You
bough a vehicle for $22,000 in 1987 and drove it
20,000 miles that year. You calculate your
adjusted basis by subtracting depreciation of 10
cents a mile on the 15,000 ceiling, not on the
20,000 miles you drove that year. Thus,
your adjusted basis for gain or loss is $20,500
after you subtract depreciation of $1,500 ($0.10
x 15,000 miles).
Example 2: You
bought a vehicle for $35,000 in 2003 and drove it
20,000 miles a year in 2003 and 2004. You
deducted your car expenses using the standard
mileage rates of 36 cents a mile in 2003 and 37.5
cents a mile in 2004. Included in the
standard mileage rates is depreciation of 16
cents a mile. Multiply the 16 cents by
40,000 miles and you get $6,400 of
depreciation. Thus, your adjusted basis at
the end of 2004 is $28,600 ($35,000 minus
$6,400).
If you sell this car for
$20,000, you have a deductible loss of $8,600
($20,000 minus $28,600).
Do you use the standard
mileage rate? If so, you will have a gain
or loss when you sell. How much is your
gain or loss? You should know! If it
is a loss, think of this loss as money in the
bank. You can deduct the loss and reap the
tax benefits when you sell your car to a third
party.
Vehicle trades:
Did you do these two things with your business
vehicle?
- Did you trade
your old business vehicle for your
replacement business vehicle (say, a car
for a car)?
- Did you use IRS
mileage rates?
If you answered
“yes” to both questions, you may have a
larger deduction than you suspect.
Example: Say you
have been in business for 10 years; during that
time, you have had four cars. You paid
$30,000 for the first car; with each of the three
subsequent trade-ins, you paid $15,000, for a
grand total of $75,000 invested in cars during
your 10-year business life.
During this 10-year
period, you drove your vehicles an average of
17,000 miles a year. Further, to keep our
numbers simple, let’s assume that the
average rate of depreciation in your
standard-mileage-rate deductions is 15 cents a
mile, for a total of $25,500 over the 10 years.
This gives you an
adjusted basis of $49,500 on the car you
currently drive ($75,000 minus $25,500).
This basis is higher than the $30,000 sticker
price for the car. How does that
happen? Trades! Trades roll over your
old basis to the new car. That’s what
allows you think of all the cars at once in one
easy-to-grasp arithmetic view.
If you can sell this
standard mileage rate vehicle for $15,000, you
have a deductible loss of $34,500 ($15,000 minus
$49,500), producing a nice piece of change just
for knowing what you are doing.
Summary
To determine whether the
standard mileage rate of 40.5 cents a mile is
right for you, compare it with your actual
expenses (operating expenses plus either
depreciation or lease payments). This takes
only a few minutes and can produce some true
savings. Using the right method could
easily enable you to take additional deductions
worth $15,000 to $20,000 over the life of a
vehicle.
If you will save money
with the standard mileage method, make sure that
you qualify for the deduction. Follow the
rules laid out in this article – they are
very straight forward and easy to understand.
If you used standard
mileage rates, be sure to calculate gain or loss
on sale. Not only is this the law, but the
results are usually to your benefit.
Don’t procrastinate – make the gain or
loss on sale calculation now.
If you have traded in
business cars, consider all the cars in the
string of trades. A trade (technically a
Section 1031 exchange) rolls over the basis of
your vehicle to the new vehicle, which can
produce some magnificent deductions when you sell
the new vehicle to a third party.
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