Car and truck expenses can be confusing on your tax return. What are considered eligible expenses? And what are the current limits and mileage rates?
- An individual who owns a business or is self-employed can deduct vehicle expenses
- Automobile costs based on mileage or actual expenses are eligible
- Mileage rates have changed between 2020 and 2021
- Depreciation limits vary based on when the vehicle was purchased and put in service
- Certain vehicles used at least 50% for business qualify for the Section 179 deduction
When you run your own business, ensuring you are claiming all applicable credits and deductions will lower your tax burden. And you can deduct qualifying business vehicle expenses, like gas and repair costs, when you use a car for your business. But there are specific eligibility requirements for these deductions, and not all employees who use their vehicle for work will be able to claim them.
So, what are the eligible car and truck expenses? What does the process look like for claiming them? Here’s an overview of how to leverage vehicle expenses to drive down your taxes:
Who can deduct vehicle expenses?
To be eligible for vehicle expense deductions, an individual must own a business or be self-employed. This means that a regular W-2 employee cannot deduct car expenses on their tax return, even if they use it to travel to and from work every day. Some employers may reimburse costs if workers are required to use their vehicles for work, but employers are not required to do so.
If you are eligible, but you use the vehicle both for personal and business purposes, you need to split your expenses when doing your taxes. The deduction will be based on the percentage of mileage that you use solely for your business.
Next, let’s cover which expenses you can deduct.
What car and truck expenses are eligible?
It’s first important to note that there are two methods to calculate vehicle expenses:
- Standard mileage rate: If you choose this option, you must use this method in the first year you use the car and your business. And if you lease a vehicle, you must use it for the entire lease period.
- Actual expenses: Using this method requires you to figure out actual car expenses. The IRS includes the following as applicable expenses:
- Depreciation (limits discussed in a later section)
- Lease payments
- Gas and oil
- Repairs and tune-ups
- Registration fees
Now, let’s look at the current mileage rates for both 2020 and 2021 taxes, along with depreciation limits.
Mileage rates for 2020 and 2021
For 2020 tax returns, due in April 2021, the mileage rate is 57.5 cents per mile, and for 2021 tax returns, the rate is 56 cents per mile. If you decide to use the standard mileage rate option described above, these are the numbers you need to know when filing your taxes.
If you outline your actual car expenses, you need to know the depreciation limits for cars and trucks used for business.
For vehicles that are eligible for the bonus first-year bonus depreciation deduction that were purchased after September 27, 2017, and used for business during 2020, the depreciation limit is $18,100 for the first tax year, $16,100 for the second, $9,700 for the third, and $5,760 for each year thereafter.
If a vehicle was acquired before September 28, 2017, and placed in service after 2019, bonus depreciation is not allowed.
For vehicles first used in the business in 2020 but do not qualify for the first-year depreciation deduction, the limit is $10,100 for the first year, $16,100 for the second, $9,700 for the third, and $5,760 for each year thereafter.
The Section 179 deduction
Section 179 of the tax code provides guidelines for businesses to deduct certain necessary equipment. Qualifying work vehicles are generally only used for business purposes and include:
- Vans or vehicles that seat nine or more passengers behind the driver’s seat
- Classic cargo vans (vehicles that have an enclosed driver’s compartment or cargo area, have no seating behind the driver’s seat, and have no more than 30 inches of body in front of the windshield)
- Heavy construction equipment
- Some tractor trailers
For typical passenger vehicles that are used more than half of the time in qualified business use, the Section 179 deduction plus bonus depreciation has a limit of $11,160 for cars and $11,560 for trucks and vans.
Excluded from the limits are ambulances, hearses, taxis, transport vans, non-personal vehicles, heavy non-SUV vehicles, and trucks with at least six feet of interior cargo area, and others.
Some heavier vehicles, with a gross weight rating over 6,000 pounds but no more than 14,000 pounds, may qualify for $25,000 in deductions if the vehicle is acquired and placed in service before December 31.
Other Section 179 vehicle deduction notes:
- The vehicle’s title must be in the company name, not the company owner’s name.
- The vehicle must be financed with leases and loans that qualify.
- Depreciation limits are reduced by the percent of personal use if the vehicle is used for business less than 100% of the time, but it must be used for business at least 50% of the time.
- The Section 179 deduction can only be claimed in the tax year that the vehicle is placed in service.
These tax laws can get complicated fast. It’s always wise to work with a tax professional to get the help you need when preparing your tax returns and claiming expenses related to work vehicles.
Getting tax help for your business
When you’re unsure how to prepare your tax return or whether you qualify for business vehicle expense deductions, work with the team at Provident CPA & Business Advisors. We’ll make sure you’re claiming all credits and deductions for which you qualify. We also offer advice and guidance on other tax-minimization strategies and business planning for the future.
Contact Provident to get started with one of our tax professionals.
The TCJA changes how to treat business travel expenses when filing taxes
Entrepreneurs have plenty to manage, from growing their business to paying employees to managing client and vendor relationships. Paying taxes is a big consideration and can be complex, especially when the tax law continues to change and thus requirements are hard to follow.
The Tax Cuts and Jobs Act (TCJA) made some major changes to tax requirements for businesses and the self-employed, including what are considered deductible business travel expenses. What follows is a look at the basics you need to know for deducting business travel costs.
Business travel tax basics
It’s first important to understand what the IRS deems business travel. You cannot claim deductions under this category if the expenses were incurred in your tax home, or the location of your main place of business. (This can be different than your place of residence or family home.) The IRS says that the most important consideration for figuring out your main tax home for business is the length of time you spend in each location.
For instance, if you are on a temporary work assignment and need to travel, related expenses are deductible. However, if your work assignment is indefinite, they are not deductible.
The IRS outlines common applicable business travel expenses:
- Transportation, including airplane, train, bus, car, and taxi costs
- Shipments between your work location and a temporary location, such as baggage or display materials
- Car expenses while you’re at your temporary work location
- Meals and hotel/lodging expenses (but see the next section)
- Expenses related to laundry, including dry cleaning
- Communications while you are away, including business calls
- Tips/gratuity for these services
Personal activities that a worker may take on a trip are not deductible—only those related to business. And if a spouse or dependent travel with the taxpayer, his or her travel expenses are generally nondeductible, unless certain conditions are met, such as that he or she is the employee of the taxpayer.
Self-employed workers can deduct travel expenses on Form 1040, Schedule C, Profit or Loss from Business (Sole Proprietorship) or Form 1040, Schedule C-EZ, Net Profit from Business (Sole Proprietorship). Unlike other employees claiming business expenses, self-employed taxpayers don’t have to meet the requirement that expenses must exceed two percent of their adjusted gross income.
Taxpayers can use per diems to calculate business travel costs. These allowances are provided for reasonable daily expenses and rates are set for both U.S. and overseas travel. Because the rates are different for different locations, the government has the current per diem rates available online by state and city, if applicable.
TCJA changes to travel expenses
The TCJA made some significant changes to what you can claim for business expenses. Meals while traveling are now subject to a limitation of 50 percent, meaning that only half of the cost of applicable business-related meals can be deducted. But employers can still reimburse employees for the full cost of their meals.
Before 2018, business travel expenses could also include entertainment expenses with the 50 percent limitation, but the TCJA eliminated the deduction for entertainment, amusement, or recreation expenses beginning in the 2018 tax year. Any food or drinks that are had during entertainment activities are not considered entertainment if they were purchased separately from the entertainment event, according to the IRS guidelines.
Cruise chip business expenses may still be deductible if an employee attends conventions, seminars, or similar events that are held on cruise ships. Taxpayers can deduct a maximum of $2,000 per year, and only if:
- The event is directly related to the taxpayer’s business or trade
- The ship is registered in the U.S.
- All of the ship’s ports are in the U.S.
- The taxpayer attaches to their tax return a signed, written statement that includes information about the trip, such as total days, number of hours each day spent in business activities and a program of activities
- The taxpayer attaches a signed, written statement from an officer of the organization that sponsored the meeting or event that includes a schedule of business activities and the number of hours the taxpayer attended the activities
Because tax law is not something to treat lightly, it’s a good idea to talk through these matters with a tax professional. Provident CPA & Business Advisors can provide you and your business a variety of tax and financial services, so contact our team of professionals today. We can walk you through tax season so you can rest assured that you are following all applicable laws and paying the least amount of tax legally possible.
Classifying doctors as employees can significantly increase their tax burden
An increasing number of doctors are banding together to form medical “super groups” and the benefits can be significant: economies of scale, greater leverage in negotiations with insurance companies and large hospitals, administrative support that leaves doctors free to focus on patient care, and a competitive advantage in the market.
Since 2016, less than half of practicing physicians in the U.S. still own their medical practice, according to a Modern Healthcare report.
But there’s also a major downside to this trend: Many physician groups are unwittingly causing their doctors to pay higher taxes than they should. Here’s a look at the reasons why, and what doctors can do to minimize their tax burden while reaping the rewards of regional physician groups.
The pass-through deduction: a significant tax break for independent contractors
Many large physician groups favor an employment model, where the group is structured as a corporation that employs individual doctors. Previously, few physicians paused to consider the difference between becoming a 1099/independent contractor or a W2/employee of their physician group.
Independent contractors are people or entities contracted to perform work or provide services to another entity as a non-employee. A growing trend in today’s gig economy, independent contractors generally exchange the perks of being an employee like benefits, 401(k) match, and greater job security for a significant tax advantage, potentially higher income, and the freedom to pick and choose their own hours and projects.
The Tax Cuts and Jobs Act (TCJA) of 2017 enacted sweeping changes to the tax code, including the addition of a completely new concept: a 20 percent “pass-through” deduction for individual taxpayers on qualified business income earned in a qualified trade or business.
This Qualified Business Income (QBI) deduction stands as a significant tax break for small business owners – including independent contractors – who operate as pass-through entities such as sole proprietorships or single-member limited liability corporations (LLCs). In these businesses, profits or losses “pass through” to the business owner, who pays personal income tax on the earnings at his or her individual tax rate.
In the past, employees paid slightly lower taxes on equivalent pay than 1099 contractors. But this new deduction changes the game – significantly tipping the tax scale in favor of contractors as long as they qualify and stay under certain high-income levels.
There is, of course, a caveat: the deduction is limited for skilled service providers like doctors, who can only qualify for the pass-through break if they earn no more than $415,000 a year for a married couple filing jointly or $207,500 for a single filer. But a skilled tax advisor may be able to find legal ways to help high-income doctors qualify for the pass-through tax rate as well, such as reducing their income by converting their office building into a real estate investment trust and charging themselves rent.
More tax deductions await
Even doctors whose incomes are too high to qualify for the pass-through deduction threshold can reap many tax rewards from changing their employment status from employee to independent contractor. Independent contractors can claim significantly more business-related deductions than employees. In fact, almost anything contractors spend on their business can be deducted from business income before any taxes – including FICA (Federal Insurance Contributions Act) payroll taxes – are paid, from scrubs to mileage to continuing medical education. In contrast, employees pay for these types of expenses with after-tax dollars.
Independent contractors can also claim business deductions for many of the benefits they pay out of pocket that would normally be provided by employers, such as health care coverage. Even so, doctors should attempt to negotiate a higher rate before changing their employment status, since their employer will no longer have to pay toward their benefits.
Independent contractors also have the freedom to choose their own retirement accounts, customizing a plan that leads to the most significant tax savings down the road for their personal situation. While that means they will miss out on an employer match, costs can be low for single-person plans such as individual 401(k)s, SEP-IRAs, and personal defined benefit/cash balance plans.
Inefficient corporate structure increases the tax burden
Many physician groups were inefficiently structured as corporations when they were formed, and now bounce out 100 percent of their taxable income to their doctors to avoid paying corporate tax. That leaves high-income doctors classified as employees facing a hefty tax bill – at the highest individual rate of 37 percent – with no or at least very few write-offs to offset their income. It also forces them to pay 100 percent of their FICA payroll tax, which eats up 7.65 percent of an employee’s salary up to a certain income level.
The income ceiling only applies to the 6.2 percent Social Security portion of the FICA tax, however. Not only is there no wage limit for the 1.45 percent Medicare portion of the tax, but there’s an Additional Medicare Tax that high-income individuals must pay that adds another 0.9 percent tax to any income that exceeds a certain threshold. This limit is currently $250,000 for married couples filing joint tax returns and $200,000 for single filers.
In contrast, these same doctors allowed to contract with the physician group through their own company could reduce their tax burden by a whopping $150,000 on between $500,000 and $600,000 of income by taking advantage of the many deductions now available to them.
Other factors to consider before making a change
Of course, tax deductions aren’t the only factor to consider before changing your employment status. When you are an employee, your employer withholds taxes on your behalf and remits them back to the IRS. If you become an independent contractor, you must have the diligence to ensure that your estimated taxes are paid throughout the year.
Independent contractors are also hit with a Self-Employment Tax of 15.3 percent that covers the 7.65 percent Social Security and Medicare payroll tax you would have paid as an employee, as well as its 7.65 percent counterpart your employer would have paid on your behalf. Since independent contractors are technically the employer and employee, they cover the full amount. While you can claim a tax deduction for half of it, the Self-Employment Tax can be a sizable expense that should be taken into account.
A skilled certified public accountant can help you weigh the financial benefits of both types of employment options. By adding a monetary value to all the benefits included in the W2 status – from paid time off to health insurance to Self-Employment Tax savings – you can make sure the tax break you realize from becoming an independent contractor outweighs the perks of remaining an employee.
Overcoming administrative concerns
Some physician group administrators hesitate to allow doctors to transition from employees to independent contractors out of fear that restructuring will harm the group. But contracting with doctors won’t affect the group’s negotiating power or control over its people; it only impacts how they are paid and enables them to do better tax planning.
A more valid concern is ensuring that doctors in the group fit the IRS framework for independent contractors. The employee vs. independent contractor designation is an area the IRS highly scrutinizes and penalties for getting it wrong are severe. While the circumstances surrounding many doctor-physician group relationships fit the bill, a qualified tax advisor can help everyone move forward with a structure that minimizes doctors’ tax burdens without imposing undue risk on either party.
Provident CPA & Business Advisors serves successful professionals, entrepreneurs, and investors who want to get more out of their business and work less, so they can make a positive impact on their lives and communities. Typically, our clients reduce their taxes by 20 percent or more and create tax-free wealth for life. Contact us for expert advice on tax planning, and to find out how we can help your business exceed your expectations.