Buy or Lease Your New Business Vehicle?

Recently I had dinner with friends who run a business. The table conversation turned to buying new cars.  Finally the buy versus lease question was asked of me…the so called tax expert. As always, I don’t answer any tax questions until I have time to double check the ever changing tax law. To answer their question, I told them to keep an eye out for my latest blog.  So Jeff, here it is!

As with most decisions in life, taxes should only be one of the considerations. Here are a few of the non tax considerations on buying or leasing a business vehicle:

1) Number of miles your drive each year (leased cars- often charged extra fees for miles driven over 10,000 or 12,000/year)

2) How long you keep a car (gets a new car every 3-4 years or keeps it until its junk)

3) How much do you want to spend on your monthly payments (lease payments are usually quite a bit less than monthly payments on car loan)

Now let’s talk about the tax consequences for the self-employed taxpayer and his business car. With both purchased and leased cars, you can deduct the related expenses by standard mileage rate or actual expenses.

Note: If you own the vehicle, you can choose the standard mileage rate in the first year and switch to the actual expense method in a later year if it becomes more favorable. If you lease a vehicle, you may also choose the standard mileage rate in the first year but must use it for the life of the lease.

With the standard mileage rate, you’ll multiply your yearly business miles by 48.5 cents per mile. You can also deduct business related parking fees and tolls. For the purchased vehicle, you can also deduct the business percentage (business miles divided by total miles per year) of your interest expense on the loan for your vehicle.

Under the actual expense rules, for both leased and purchased vehicles, you can deduct the business percentage of your gasoline, oil, insurance, garage rent, parking & registration fees, lease or rental fees, repairs, tires, loan interest, etc.

Here is where the expenses differ between purchased and leased vehicles using the actual expense rules.

If you buy your business vehicle, you can deduct its cost over 5 years (known as depreciation), which does not sound too bad. However, if the car cost is over $15,300, it is considered a “luxury” car then there are limits on the amount that you can deduct. (Who would have guessed that Congress thinks a car over that value is a luxury car!)

§ If you buy a passenger auto for more than $15,300 and weighs no more than 6,000 lbs, the most you can deduct for “depreciation” the 1st year is $3,060 and $4,900 for the 2nd year..

§ If your new business vehicle is a light truck or van (including minivans and SUVs built on a truck chassis) , weighs less than 6,000 lbs and costs more than $16,800, you can only deduct $3,260 the 1st year and $5,200 the 2nd year.

§ If your new vehicle is built on a truck chassis and weighs more than 6,000 lbs (a Cadillac Escalade SUV or a Hummer), there is no limit on your deduction for each year.

Due to these limits, it could take 12 years depreciate all of the cost a vehicle with the original price of $25,000. If you could afford a $60,000 business car, it would take over 30 years for total write-off of its cost (unless it’s a Hummer!).

Now let’s talk about leased vehicles. Since you don’t own the car, you can’t depreciate it but here’s the good news! You can deduct the business percentage of your lease payments. So if your yearly lease payment is $4,200 ($350 / month) and your business use percentage is 80%, you can deduct $3,360 on your tax return for that year. There is one hitch. Since the tax code limits the depreciation on “luxury” cars, it also limits (to a very small degree) lease payments on such a car. It’s called a “lease inclusion amount” and it reduces the deductible lease payments. The higher the original value of the car, the greater the amount.

Here’s an example showing the differences in business deductions between purchase versus leasing a car with the value of $35,000 and 80% business use.

Purchased $35,000 car

1st year

2nd year

3rd year

Limited Depreciation

$3,060

$4,900

$2,850

Less 20% personal use

$612

$980

$570

Allowed business deduction

$2,448

$3,920

$2,280

Leased $35,000 car

1st year

2nd year

3rd year

Yearly payments

$4,500

$4,500

$4,500

Less inclusion

$138

$303

$452

Net monthly payments

$4,362

$4,197

$4,048

Less 20% personal use

$872

$839

$810

Allowed business deduction

$3,490

$3,358

$3,238

You can see that you need to look at the combined years to see if it’s better to purchase or lease a business vehicle. As the price goes up on the car, leasing usually becomes more preferable. But don’t forget if you purchased the vehicle, you can also deduct the business percentage of the interest on the vehicle’s loan.

There is one more difference between buying and leasing a business vehicle. That difference is the disposition of the vehicle. When you dispose of a business vehicle that you own, there may be taxable gain or deductible loss. The portion of any gain that is due to depreciation will be taxed as ordinary income. When you return your leased car to the dealer, there is no taxable gain or loss.

For more information:

Tax Guide for Small Businesses

IRS Pub 463 – Travel, Entertainment, Gift, and Car Expenses

Comments (8) Leave your comment

  1. Employee deductions are different from the deductions a business owner would take. For example, a pool cleaning business can expense the truck necessary for cleaning pools. However as an employee, you probably need a vehicle to commute to and from work. Since personal expenses like vehicles and homes cannot be deducted, I would consider the car a personal necessity.

    As the employer is already taking a deduction, I would avoid double dipping.

  2. My husband is an employee at a car dealer, he is required to lease a BMW and company pays part of his lease payment. Can we take a tax deduction for this vehicle?

  3. I am a licensed family child care provider and am trying to decide whether to purchase or lease a vehicle..looking at this it seems that leasing makes a LOT more sense since it will ONLY be for business use. I also want to be sure I am correct, the payment percentage is a write off as well as the mileage and insurance on a leased vehicle.

    • You can choose to use the standard mileage rate or actual expenses – but be careful not to use both.

  4. I am not experiencing any trouble, the text is nicely in the middle of the screen. Have you checked your screen settings, perhaps there is something wrong in there?

  5. I don’t know whether it’s just me or if everybody else experiencing problems with your site. It appears as though some of the text in your posts are running off the screen. Can someone else please comment and let me know if this is happening to them as well? This might be a issue with my web browser because I’ve had this happen previously. Cheers
    First off I would like to say awesome blog! I had a quick question that I’d like to ask if you don’t mind. I was interested to find out how you center yourself and clear your thoughts before writing. I’ve had a tough time clearing my thoughts in getting my thoughts out there. I do enjoy writing but it just seems like the first 10 to 15 minutes are generally lost simply just trying to figure out how to begin. Any ideas or tips? Thanks!

Leave your comment* = required field