Few items cause as much confusion for the small-and home- based business person as determining allowable car and truck expenses. Vehicle expenses can be significant, and they should not be overlooked as a legitimate business expense.
As a general rule, all trips made for business purposes are deductible expenses. Trips to purchase supplies, meet customers, make sales at craft shows or mail products that have been ordered are allowable business expenses. All business mileage and expenses should be documented, if possible, with exact, concurrent records. For each trip, the date, mileage, destination and reason should be listed. If a trip is not documented in this manner, the cost claimed may be disallowed by the Internal Revenue Service.
The method you choose to deduct business auto expenses for the year you placed your vehicle in service will affect your options in later years. If the standard mileage method is used the first year, you can switch to the actual cost method is later years, but the Internal Revenue Service will not permit you to use the Modified Accelerated Cost Recovery System (MACRS) as a method of depreciation and you cannot claim a Section 179 deduction. This is because the standard mileage rate takes depreciation into account. If you switch to the actual cost method later, depreciation deductions must be under the straight line method. If the actual cost method is used the first year the vehicle is placed in service, you cannot s witch to the standard mileage method in later years.
Example: If 20,000 business miles were driven, the claim would be $5,800 (20,000 miles x 29 cents).
The standard mileage rate takes the place of claiming some actual expenses of operating the business vehicle. These expenses include gasoline, oil, insurance, depreciation, maintenance and repairs, and vehicle registration fees.
As notes, these deductions are for business trips only. Sole proprietors would use Schedule C or C-EZ, IRS Form 1040. You are considered a sole proprietor if you are self-employed and are the sole owner of an unincorporated business. For partnerships, reporting would be done on IRS Form 1065, for corporations use IRS Form 1120 or 1120S. Employee business expenses are reported on form 2106 or form 2106-EZ.
Example: If 40,000 miles were driven in a tax year in which 28,000 miles were for business, then business use is calculated at 70 percent (28,000/40,000).
The actual cost of operating the vehicle in the year 1994 was $2,500. Business use was 70 percent. The deduction is $2,500 x 70 percent or $1,750. In addition to operating costs, the business portion or 70 percent of depreciation can be deducted.
Figuring depreciation allowances can be confusing because rules vary depending on when the car was placed in service.
If you used your vehicle more than 50 percent and it was placed in service after 1986 the recovery period is five years using the MACRS system. As an example, in 1994 you placed your vehicle in service using it 70% for business. Your total depreciation business deduction, including Section 179 Deduction is $2,072 (70% of $2,960). If the car remained in use in 1995 at 70 percent for business purposes, your deduction would be $3,290 (70% of $4,700). Subsequent years would follow the same procedure.
If you use your car 50 percent or less for business use, you cannot take the 179 deduction. An alternative to Section 179 is to use the straight line method over a five-year period to determine depreciation.
If you used your vehicle more than 50 percent for business use the first year but 50% or less in later years, you may have to recapture any excess depreciation. For more information, consult IRS Publication 534: Depreciation and IRS Publication 946: How to Begin Depreciating Your Property.
Example: A new car was purchased for $20,000 cash. The remaining adjusted basis of the trade-in vehicle was $2,000. The basis of the new car is $22,000 ($20,000 + $2,000). The basis of the new vehicle must then be multiplied by the business percentage to determine depreciation allowances. This is done on an annual basis to determine the depreciation change.
When a fully depreciated business vehicle is sold, multiply the sale price by the business use percentage and report the resulting figure as income.
Example: A fully depreciated vehicle is sold for $2,500. The car was used 60 percent for business. Therefore, the business income reported is $1,500 (2,500 x 60). For more information, consult I.R.S. Publication 544, Sales and Other Disposition of Assets.
Keep records that support your cost basis in the vehicle as long as it is needed to figure the correct cost basis of your original or replacement vehicle.
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