Size up auto deductions. Tax credit on car use may not be big sum
Big deal. When she took over a rural newspaper delivery route recently, a reader says, her predecessor told her one of the advantages was being able to claim a federal income tax deduction of 201/2 cents a mile for automobile expenses (11 cents after the first 15,000 miles). Well, the job involves over 10,000 miles of driving a year, so that works out to a pretty hefty tax savings, doesn't it?
This reader is joining the ranks of those who are dealing with both old and new facts about the business use of automobiles and income tax deductions in general.
``If it doesn't make sense on a pre-tax basis, it doesn't make sense on an after-tax basis, either,'' observes David Wright, national tax director for Coopers & Lybrand, the accounting firm. In this case, the woman is in a 25 percent tax bracket, so only 25 percent of the $2,050 in expenses (10,000 miles times 20.5 cents) is actually deductible.
That leaves about $500 that can be deducted, but the effect is to simply move her a few notches down on the tax tables, for a total savings of about $150.
That's not much, considering the actual expected costs of about $1,300 a year on their compact car, the time and effort required for the job, and the strictly enforced (as of New Year's Day) record-keeping requirements. Apparently, the job pays enough to make it worthwhile.
Those new record-keeping requirements are just one way the rules on auto deductions have become more complicated and restrictive, particularly for cars that are used only part-time for business.
Starting Jan. 1, the Internal Revenue Service requires ``adequate contemporaneous records,'' which means a daily log must be kept of the miles driven in order to perform the job. The diary must also show the date the car was used, the person driving, and the purpose of the trip. As with any work, the log cannot include the mileage between home and the job.
If you claim a deduction for the car's business miles, you will have to certify that this record exists. If it does not and you cannot prove the claim to the IRS, the deduction will be disallowed and a 5 percent penalty will be charged.
Instead of using 201/2 cents a mile, you can also keep constant records of gas and oil purchases, tire changes, and maintenance. But the difficulty in dividing these expenditures between business and non-business use is the reason people use the cents-per-mile system.
Separate deductions are still allowed for parking fees, tolls, interest on the car loan, and sales taxes that were paid when the car was purchased.
If you purchased the car after 1979 and have put 60,000 or more business miles on it, the car is considered fully depreciated and the per-mile deduction drops to 11 cents.
Speaking of depreciation, the 1984 tax law made some changes in that area, too. In the past, you could buy a car -- including a very expensive luxury model -- and depreciate it over three years if you used it for business purposes. Now, the maximum allowable depreciation is $16,000 in the first three years, taking $4,000 the first year, $6,000 the second and third years, and $6,000 a year after that.
The $16,000 limit over three years is expected to slow a growing practice among business-car users and may slow sales of luxury cars.
``People were buying very expensive cars -- the Mercedes, the Caddys -- and writing it all off as a business expense,'' Mr. Wright said. He sees a growing ``sense of fair play'' at work, making it hard to argue against the changes.
In addition to the new depreciation rules, the investment tax credit, which is 6 percent for cars, has been limited to $1,000, regardless of the cost of the car.
However, neither the $16,000 three-year depreciation schedule nor the $1,000 tax credit can be used if the car is driven less than 50 percent of the time for business use. If the car is used less than half the time, depreciation is limited to a maximum of $1,500 in the first year and $3,000 in each of the next four years. If you come close to the 50 percent cutoff and aren't sure which side of it you are on, the daily log will help.
The new depreciation and tax credit limitations apply to cars placed in service after June 18, 1984.
For people who use the family car in charitable work -- driving church groups, taking donations to needy families, or shuttling Boy Scouts around -- there is still a 9 cents per mile deduction. As with business use of the car, the same contemporaneous records rule applies when driving for a charity. This amount increase to 12 cents a mile beginning this year.
People who lease the car they use for business purposes have their own new set of rules to learn. If the initial retail price of the leased car is more than $16,500, the lessee has to add the higher amount that represents rental deductions to their taxable income. Again, this is designed to bring some equity between those who choose to lease luxury cars and those who cannot afford them.
The IRS recently released regulations that attempt to clarify the rules behind deductions for owned and leased cars. Some sections of the rules are fairly complicated, so the assistance of a professional tax adviser is probably a good idea.
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