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The Basics
Your car, your tax shelter
The IRS has upped its mileage allowances for your car business expenses. While mileage is easy, tracking all your auto expenses for business may save you at tax time. Here's how to get the most out of the system.
By Jeff Schnepper

If you're like most of us and use your car periodically for business purposes, you put in for mileage. For your 2001 taxes, you get a break. The Internal Revenue Service (IRS) raised the rate for business-related expenses to 34.5 cents per mile, up from the 32.5 cents a mile in 2000.
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Given that gasoline prices are up about 50 cents a gallon from a year ago, the increase isn't much, but it's something. You get a bit more on your 2002 taxes. Again because of rising fuel prices, the rate rises to 36.5 cents a mile.

Recouping auto expenses via mileage is the method used most often by taxpayers because it is so much simpler to track. You get to deduct mileage for charitable work and for medical and moving expenses. The charity rate is 14 cents a mile; the medical and moving rate was 12 cents in 2001 rises to 13 cents a mile in 2001.

Depending on how much you drive, however, this may be a year in which you give some thought to keeping track of all your auto-related expenses because that might give you a bigger tax break at tax time. Here's how it works.

Rules of the road
The basic concept is simple: you can deduct both the cost of your car and the cost of running it. If you lease a car, you can deduct the lease payments. But these deductions are only available to you if you meet certain use restrictions.

But your expenses are only allowed according to how much you use your car for business purposes. You measure "business use" by comparing business mileage to total mileage driven. If you drive your car 10,000 miles over the year and 8,000 of those miles are for business use, then 80% of your expenses are deductible as "business" expenses.

Commuting doesn't count as a business expense, however. That's fair, but let's consider what happens if you work out of your home, where your commute may well be your trip from the bedroom to the basement. Once you get into the car to do business, that becomes an expense. Mileage between jobs is business mileage, as is any mileage driven for business-related purposes -- such as from your job to a school to take a business-related course.
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 Allowable expenses include gas, oil, repairs, maintenance, insurance, registration, interest, auto-club membership and anything else that's related to your car. If you use your car 80% for business, then 80% of the cost of a compact disc (CD) player and 80% of the cost of CDs used in your car become business expenses, and you'll probably take that deduction in the year you buy either. Let's not neglect the "business" baby shoes you hang from your rear view mirror. And don't forget the cost of washing the car as well!

Some expenses aren't subject to the business-use limitation. You can deduct 100% of any tolls or parking fees incurred in the business use of your car. It doesn't matter if you take mileage or track all the expenses.

Depreciating your car
The cost of your car can be depreciated. However, there are annual limitations on the amount of depreciation you can take on a car not weighing more than 6,000 pounds. The limit was Congress' attempt to differentiate between personal cars used in business and true, pure business vehicles -- like a truck.

For the record, a 6,000-pound vehicle is very large. According to the Microsoft Network's CarPoint, a Lexus SC 400 sedan weighs just 3,655 pounds. A Ford Explorer Sport Trac with 4-wheel drive weighs 4,400 pounds. That's the vehicle with four doors and a pickup-like rear bed.

If you buy a new car this year, you face limits on the maximum amount you can depreciate each year. Here's the schedule:
  • Year 1: $3,060
  • Year 2: $4,900
  • Year 3: $2,950
  • Year 4 and subsequent years: $1,775 each year
If you buy a $30,000 car, it will take nearly 14 years to fully depreciate it.

These limits are further reduced by your business-use limitation. For example, if you use the car 80% in the first year, your depreciation is limited to 80% of $3,060, or $2,448. That $30,000 car will now take 18-plus years to depreciate.

If you lease your car, there's a corresponding "add-back" based on the value of the car and the year you started using it for business. The IRS requires you to add back $119 on a car you leased this year that's valued from $29,000 to $30,000. If your lease costs $1,000 a month and you use the car 80% for business, you start with a lease deduction of $12,000 x 80%, or $9,600. Then, you reduce that amount by 80% of the add-back -- $119 x 80%, or about $95, yielding a net deduction of about $9,505.



I've suggested to clients that they keep a tape recorder in their cars to record mileage and expenses as they occur. Accumulated tapes blow the IRS away in an audit!
 Keeping track for the IRS
You can track your mileage and auto expenses with a journal or diary, backed up with receipts. I've suggested to clients that they keep a tape recorder in their cars to record mileage and expenses as they occur. Accumulated tapes blow the IRS away in an audit!

You report business expenses for your car on Schedule C if you're self-employed, and on Form 2106 if you're an employee. If you don't plan to submit reimbursement claims to your employer, ask the company for a letter stating that you're not reimbursed for any auto expenses. If you're audited three years from now and have changed jobs in the interim, it may harder to obtain the letter.

If your employer pays mileage at a rate less than the IRS permits, you can deduct the difference on Form 2106.

You include charitable and medical expenses from use of your car on Schedule A; auto-use moving expenses are deducted on Form 3903.

If you own two cars, you may be able to leverage your deductions. Let's say you currently put 36,000 miles a year on a business car (which you use 100% for business) and 12,000 miles a year on your personal car. The total mileage is 48,000 miles per year. Now, switch the use of each car every six months.

If you rotate your cars equally between business and personal use, each car will be driven 24,000 miles a year, 75% of which would be business miles (36/48). Rather than taking 100% of one car, you can now take 75% of your depreciation and other costs on each car. This can be worth a lot more than simply deducting all the costs on one car and none on the other.

If you can stand the paperwork!