How to Depreciate A Car for Taxes

Depreciation is a cost that is allocated to an asset’s original purchase price/acquisition cost on a regular basis over the asset’s useful life. When a company places a fixed asset in service for multiple years, it cannot be expensed in a single period but must depreciate the asset’s value over time and charge related cost allocation to depreciation expense. Using depreciation expense allows businesses to better match asset uses with asset benefits.

All our daily errands, school pick-ups, veterinary appointments, and commutes to work are done in our cars. Some of us depend on our cars so much that we even call them by their nicknames and comfort them when they make noises we can’t afford.

It shouldn’t come as a surprise that they also enable us to reduce our tax obligations given all the benefits they provide for our daily lives. Unbelievably, you can depreciate your car on your tax return to lower your taxable income.

What does car depreciation mean?

Depreciation is a method of calculating an asset’s declining value, to put it simply. We can all agree that a Ford Focus purchased in 2014 is worth less than a Ford Focus purchased in 2018. The cause of this decline is also clear: a car experiences more wear and tear the more it is driven. Finding a used car with low mileage is therefore always a good deal. (Who knew you would also get car buying advice here!) Human innovation is still going strong, which is another contributing factor. New car models with enhanced functionality and features are introduced every year. Furthermore, the car you bought five years ago is incomparable today.

What does auto depreciation imply for your taxes?

The general idea behind car depreciation for taxes is to spread out the cost of a car over its “useful life,” rather than writing off the entire cost the year you buy it. The useful life of a vehicle is the amount of time it takes for it to lose 100% of its original value. The IRS considers five years to be standard for most vehicles for tax purposes. Mileage and actual expenses are the two most common ways to depreciate your vehicle for tax purposes.

When using the standard mileage deduction:

Most people have heard of the term “business mileage.” If you’re not familiar with the term, it refers to the number of miles you drove for work each year. This is an excellent option for people who drive frequently for a living, such as truck drivers or Uber and Lyft drivers.

It may also make sense for Turo hosts whose cars are frequently rented out. The IRS publishes a standard mileage rate each year in order to reflect all of the costs associated with owning a vehicle: gas,repairs, oil, insurance, registration, and, of course, depreciation.

This rate is $0.585 per mile from January to June of 2022 and $0.625 per mile from July to the end of the year. (The IRS raised it for the past six months in response to rising gas prices.)

How to calculate your standard mileage deduction

These rates can be used to determine your annual tax deduction. Consider driving 12,000 miles in a year, 5,000 of which were for work. Let’s assume that they were distributed equally, with 2,500 going to the first half of the year and 2,500 to the second.

Your $3,025 mileage write-off. (2,500x $0.585=$1,462.50, and 2,500x $0.625= $1,562.50. You get $3, 025 when you add them all up.

Don’t track the distance you travel for work.

The only exception is that “business mileage” does not include commuting mileage. Commuting miles are the distance you drive from home to work.

If your home office is your sole place of business (you don’t have a secondary primary office somewhere else), you can deduct the mileage to and from your home office.

When applying the actual expense method,

You can deduct the actual costs of your vehicle, including gas, maintenance, repairs, insurance, and depreciation, using this expense method. This option has the benefit of making tracking expenses during the year easier because you can deduct them along with other expenses. You will still need to keep up-to-date records of your travels for business purposes.

Be sure to carefully consider which approach is most beneficial to you. If you use mileage in your first year, you can use actual car expenses in the following year. However, if you decide on the actual method in the first year, you are committed to it and cannot change to mileage later.

According to each individual auto. So theoretically, you could have two vehicles, each employing a distinct technique. On the same vehicle, the only restriction is that you cannot switch between methods.

How much of the depreciation on a car can you write off?

Depreciation is already factored into the standard mileage rate, so if you choose the mileage option, you cannot deduct it separately. The amount you can deduct for depreciation under the actual expense method, however, is your “basis” in the vehicle. In essence, “basis” refers to “sunk cost.” Let’s say you pay $18,000 for a used car, and the final cost is $20,000 when you factor in all the fees, taxes, and registration. Your investment in the car is $20,000. (regardless of whether you need financing to make the purchase or not).

But before you rush to sign on the dotted line, you should be aware that only the business portion of your basis qualifies for tax deductions.

Most of us don’t have cars that are only used for work, so we must treat them as “listed” assets and delineate the portion that is personal. The same formula used to determine mileage above is used to determine the business portion: business miles / annual mileage = business use. For tax purposes, the vehicle’s “depreciable basis” is calculated by multiplying the basis by our business-use percentage. The depreciable basis for our $20,000 vehicle in the example above would be $11,400.

Is it possible to get a bigger write-off upfront?

The fact that you cannot write off the entire cost of your vehicle when you purchase it surprises a lot of people. The IRS has developed methods to “accelerate” depreciation in response to this to permit a larger write-off in the first year.

Currently, there are two ways to quicken depreciation.

With Section 179, depreciation can be accelerated:

The purpose of the Section 179 deduction is to encourage business owners to invest in machinery and equipment. Instead of depreciating the purchase over its useful life, the election enables you to write off the entire cost of the purchase in the first year.

With the exception that the maximum write-off is only $18,200 for 2021, the 179 deduction also applies to vehicles.

Remember that vehicles used for business purposes at less than 50% are not eligible for the 179 deduction.

Bonus depreciation and accelerating depreciation:

Bonus depreciation, introduced with the Tax Cuts and Jobs Act, enables you to deduct 100% of the cost of any machinery and equipment you buy.

Unfortunately, the maximum deduction for bonuses is $18,200 in the first year, the same automatic limits that apply to Section 179. In addition, vehicles used less than 50% for business cannot be claimed for bonus depreciation.

What distinguishes Section 179 from Bonus Depreciation?

In terms of cars, Section 179 and bonus depreciation produce essentially the same outcomes. The only distinction is that, because bonus depreciation is automatic, you don’t need to make any special choices in order to take advantage of it.

As a result, many individuals consider using this method to be more practical.

SUV, truck, and other heavy-duty vehicle depreciation:

Depreciation has been covered thus far in relation to “passenger vehicles.” Most of us drive a passenger car. They typically weigh less than 6,000 pounds and aren’t intended to seat more than nine people.

However, a lot of the time, independent contractors and people who work for themselves have jobs that call for more powerful vehicles. “Transportation equipment” refers to SUVs, pickup trucks, and other large vehicles. As a result, you are qualified to expense 100% of their cost under Section 179 and bonus depreciation.

For instance, if you spend $80,000 on a truck and it satisfies the transportation standards, you can claim the full $80,000 in the first year.

Your car must have a Gross Vehicle Weight Rating (GVWR) of more than 6,000 pounds in order to be considered as meeting the transportation requirements. Most manufacturers will specify this on the car’s label.

Similar to passenger cars, you must depreciate a vehicle using the straight-line method over the course of its useful life, which for heavy vehicles is typically six years, if the percentage of business use is less than 50%.

Nobody wants to spend their Saturday afternoon figuring out how much their car has depreciated, but it is absolutely worth the time!

General FAQs: