There are plenty of ‘tax tips’ articles out there for real estate agents. However, most of these articles provide nothing more than a general, overall understanding of what expense categories are considered eligible for federal tax deductions. This article will attempt to explain how you can deduct car expenses as part of your business. However, this is an overview, and should not be considered a substitute for sound, personalized advice from a tax professional.
This article will cover:
- How to determine what business-related driving expenses are deductible
- Two methods the IRS allows you to use
- How you can build a system to record your mileage and car expenses for tax purposes
What is deductible?
According to IRS Publication 463, Chapter 4-Transportation, you can deduct car expenses for business transportation that are not already covered under travel expenses. However, this can get confusing, so let’s break it down a little further into what this includes & what this doesn’t include.
What is included?
- Transportation from one work place to another in the course of your business when you are traveling in the city or general area that is your tax home. For example, driving from your primary broker office to another broker office would be includible.
- Visiting clients or customers.
- Going to a business meeting away from your normal workplace.
- Going from your home to a temporary workplace when you have more than one regular place of work. An example would include a temporary assignment at another broker’s office.
- If you have a home office, and that is your primary place of work, you’re allowed to commuting costs. This for commutes to other work locations in the same trade or business, regardless of distance.
What is not included?
- Expenses incurred when you are traveling away from home overnight. These expenses are covered under IRS Publication 463, Chapter 1-Travel.
- Daily transportation expenses incurred while traveling from your home of record to your primary place of business. Other than what was previously mentioned in includible expenses, these are generally regarded as non-deductible commuting expenses.
These are general rules of thumb. For more detail, Publication 463 contains a lot more detail, which you should refer to for more guidance on what is acceptable.
Standard mileage rate
The IRS allows you to use two different methods to calculate your deduction, the standard mileage rate or actual allowable expenses. These are explained below, but if you’re allowed to take either expense, it’s worth the time to calculate each one and see which provides the higher tax benefit. Let’s discuss each of the methods below.
Standard mileage rate. The IRS generally allows you to calculate a deduction based on the amount of business miles multiplied by the IRS standard mileage rate. For 2016, the IRS’ standard mileage rate is $.54 per mile. For example, if you drove 8,000 miles that qualify for legitimate business purposes, you would multiply 8,000 by the $.54 mileage rate. This gives you a deduction of $4,320. However, there are some restrictions:
- If you use the standard mileage rate for a year, you cannot deduct actual car expenses, which we’ll discuss in the next section.
- If you choose to use the standard mileage rate for a car that you own, you must select it for the first year your car is available for business purposes. After the first year, you can then select either the standard mileage rate or actual car expenses.
- If you choose to use the standard mileage rate for a car that you lease, you must use it for the entire lease period.
- You must make the selection by the due date of your tax return (including extensions).
- You cannot claim the standard mileage rate if you:
- Use 5 or more cars in the same business
- Used and claimed accelerated depreciation for the car
- Claimed a Section 179 deduction on the car
- Claimed actual expenses for a car that you leased
- Claimed a special depreciation allowance on the car
- There are certain deductible expenses that you can include even if you use the standard mileage rate:
- Personal property taxes. These are generally claimed as an itemized expense on Schedule A of your tax return. However, if you’re self-employed, you can deduct the business-related portion of your personal property taxes on Schedule C of your tax return, and the remainder on Schedule A.
- Parking fees and tolls. You can claim these in addition to the standard mileage rate.
- If you are self-employed, you can deduct the interest expense related to business use of your car. For example, if you use your car 60% for business, you can deduct 60% of the interest on Schedule C (Form 1040). However, this only applies to self-employed individuals. You cannot deduct interest expense as an employee.
Actual car expenses
If you’re not eligible to deduct standard mile rate, or if you choose not to, you can deduct actual car expenses related to your business. Before we discuss which expenses are covered, it’s important to note that you must divide your expenses between business & personal use. This is done by figuring out the following:
- Total amount of miles driven in a tax year
- Total amount of miles directly related to business
- Total amount of personal miles
For example, if you drove 20,000 miles in a year, and 8,000 were for business, then the other 12,000 were personal use miles. Once you know these numbers, you divide the business miles by the total miles to reach a percentage. In this case, it’s 40%. This means that you can deduct 40% of all allowable car expenses as business use expenses. So, what are allowable car expenses?
- Depreciation (beyond the scope of this article)
- Oil changes
- Lease payments
- Garage rent
- Parking fees
- Registration fees
- Repairs & maintenance
If you decide to use actual car expenses, IRS Publication 463 has detailed guidelines that cover questions not covered. You will definitely want to refer to this when trying to calculate vehicle depreciation cost. This topic is too complex to cover in this article. However, to wrap up this article, we’re going to talk why it’s important to have a system to track costs & mileage, and how you can do so.
Building a System
Since the business vehicle deduction is prone to abuse, the IRS takes a skeptical eye towards it. If your records are ever audited, it’s very important for you to be able to detail exactly how you record your expenses & mileage. If done properly, the IRS will be able to understand your rationale, determine that your recordskeeping is in order, and allow you to keep the deduction. If not, you could find that your deduction is disallowed, and you will have to recalculate your tax liability. Below are some points that you should consider:
Mileage. Regardless of which method you choose (standard mileage rate or actual car expenses), you will have to have a way to record your business-related mileage. The IRS requires you to keep accurate records of each business-related trip. Each trip entry should contain: date, starting point, ending point, purpose, starting mileage, ending mileage. While it used to be cumbersome to do this by hand, fortunately there are apps, such as MileIQ, Everlance, and Expensify, which can help you streamline this record-keeping process. It’s well worth the subscription fee ($100 per year or less, depending on the service) to simplify the cost of all your business-related driving. You’ll more than make up for the cost with the deduction.
Choosing between mileage and actual car expenses. While the IRS recommends calculating both methods to determine which gives you the ‘bigger bang,’ the IRS also likes consistency. Flip-flopping between standard mileage and actual expenses can throw up a red flag, which you want to avoid. Since you can always elect actual expenses, you should probably start off with standard mileage rate calculation for at least the first year. If you don’t, then you’re stuck with using actual expenses for the rest of your car’s life, even if the mileage rate ends up being the better option in a future year. Also, keep in mind the situations which might force you to use actual expenses.
Avoiding the best of both worlds. Remember, the IRS is pretty savvy at preventing you from taking the best of both. For example, if you use an accelerated depreciation (such as Section 179, which has its advantages), you can NEVER use the standard mileage rate for that car. If you use standard mileage rate for a leased car, you have to use it for the entire lease term. Just know that if it sounds like double-dipping, the IRS will probably not allow it, unless it’s clearly specified in Publication 463.
This article is not a substitute for tax advice for your individual situation. Do you have any questions about what is deductible and what is not? If so, please feel free to shoot me an email to me at: email@example.com and I’d be more than happy to research it for you.