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Automobile Decision Tree

Article ID: 317
Last updated: 02 Jul, 2016
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By Jason Watson (Google+)
Posted July 2, 2016

In deciding whether to own the automobile personally or through your S corporation, here is a simplified decision tree. It is not a hard and fast set of rules, but will provide some guidance.

  • If you typically buy new cars every 2-3 years, can justify a business use above 80% and drive 15,000 miles or less per year, then have the company own it. The depreciation will be a great small business tax deduction.

  • If you typically buy new cars every 2-3 years, but cannot justify business use above 80% or drive 15,000 miles or more per year, then own it personally and get reimbursed. At 15,000 miles the tax benefits of depreciation over 2-3 years becomes a wash.

  • If you typically buy used cars that are 5 years or older, then own it personally and get reimbursed. The POS potentially becomes a huge money maker.

  • If you buy a new car every 5-6 years, typically spending more than $60,000 and can justify business use above 80% then the question becomes more complicated and depends on miles driven. Fewer than 12,000 miles, have the company own it. More than 12,000 miles, own it personally and get reimbursed. At exactly 12,000 miles, flip a coin.

These are not hard and fast rules. These are rules of thumbs and generalizations. We always caution people trying to split the atom to save some money. At the end of day, most small business owners do what makes him or her feel most comfortable, and the few bucks that might be left on the table is overshadowed by the lack of anxiety and headache.

Trading in cars and buying new ones might create an involuntary Section 1031 Like-Kind exchange without you intending to. There is an IRS Revenue Ruling 61-119 and two tax court cases you can skim tonight in bed-

The IRS issued a Technical Advice Memorandum (TAM200039005) in May 31, 2000. In that memo they referenced the Redwing Carriers federal court case, and did a pretty good job of reiterating the finding. Here is the snippet-

In Redwing … the Service [IRS] successfully argued that the taxpayer could not shape what was essentially an integrated purchase and trade-in transaction of new and used trucks into two separate transactions. The Fifth Circuit Court of Appeals agreed that the transactions constituted a like kind exchange, citing Rev. Rul. 61-119, 1961-1 C.B. 395. That ruling holds that where a taxpayer sells old equipment used in his trade or business to a dealer and purchases new equipment of like kind from the dealer under circumstances which indicate that the sale and the purchase are reciprocal and mutually dependent transactions, the sale and purchase is an exchange of property within the meaning of § 1031 even though the sale and purchase are accomplished by separately executed contracts and are treated as unrelated transactions by the taxpayer and the dealer for record keeping purposes.

Huh? If you own a vehicle and later trade it in for a new vehicle, and the purchase of the new vehicle was predicated on you trading in your current vehicle, the IRS forces you to assume this is a Section 1031 Like-Kind exchange. Why is this bad? This is bad because the basis in your new vehicle will be the basis of your old vehicle, and there is no tax deduction arbitrage in accelerated depreciation in the first year. Here’s what you do to dodge the bullet-

  • Buy your BMW 435 for $70,000. Grey or black.

  • Depreciate $16,260 (using 2016 numbers) over the next two years. Upgrade the sound system, drive it very little and keep it in the garage.

  • Sell it to Tina Watson, Senior Partner for the Watson CPA Group, who just loves that car for $54,000. Maybe a small discount, so $53,000.

  • Buy a Porsche Panamera GTS for an obscene sum of money, but worth every penny.

  • Depreciate $16,260 (using 2016 numbers) over the next two years.

Does this make sense? Hopefully.

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