"Everyone's Oil Depletion Allowance" Makes Fuel Efficient Cars a Tax Free Profit Center
by Craig A. Severance
July 1, 2011
As a CPA, I was amazed the first time I encountered information on the Oil Depletion Allowance -- a special tax break for certain businesses with an interest in oil and gas operations. My amazement came because it is customary for Congress to grant tax write-offs when a taxpayer actually spends money
on something real. However, the Oil Depletion Allowance is often a straight 15% deduction off Gross Revenues
-- without the need to spend a single dime.
The rest of us would love to have such a "standard" tax write-off with no need to actually spend money, but they are very rare.
"Everyone's Oil Depletion Allowance".
While not as generous as the tax breaks for the oil and gas industry, there is a "standard" tax write-off available to most businesses that, like the Oil Depletion Allowance, is not based upon the amount of money you actually spend. This "standard" write-off is the Standard Mileage Rate -- which on July 1, 2011 the IRS increased
from 51 cents, to a new rate of 55 1/2 cents for every mile driven for business.
The Standard Mileage Rate is based upon IRS calculations of what -- on average --
it costs to own and run a vehicle. Burning fuel, i.e. depleting the oil based resource in your tank, is a big part of that cost, which is why my nickname for the Standard Mileage Rate is "Everyone's Oil Depletion Allowance".
Opportunity for Small Business Owners With Fuel Efficient Vehicles
. The other reason this nickname fits is that a business can use the full amount of this tax write-off without actually spending that much money. The Standard Mileage Rate is based on miles driven -- not how much it actually costs to drive those miles.
Because it is an average
rate, small businesses with fuel efficient vehicles can use this as a perfectly legitimate way to claim a business deduction that is more than they actually had to spend. They just need to make sure they are eligible to use the Standard Mileage Rate per IRS rules
, and keep good mileage records.
When Do You Really Need the Big Truck?
Many businesses -- including many who do not now think they could use a lighter vehicle -- can benefit from this strategy. How often is a heavy truck really needed? Are you really going to haul a backhoe around on a bidding sales call or a quick trip to the hardware store? If you really must have a heavy truck, limit its use to only the trips where it is really needed.
Opportunities for Employees.
IRS currently limits the use of the Standard Mileage Rate essentially to small businesses, those with up to 4 vehicles in use, and does not permit its use for large fleets of vehicles such as those owned by big corporations. However, it is standard practice in many large and small corporations to reimburse employees (tax free) at the Standard Mileage Rate for using their own vehicles for the business.
The employee, therefore, can receive tax free income. If they are getting reimbursed 55 1/2 cents per mile for driving an efficient car on company business, they can get paid more than it costs them to drive that vehicle. This is a great way to be rewarded for driving a "Green" car.
I typically advise small corporation owners, who are employees, to use this "employee reimbursement" method for themselves as well rather than have their corporation own the vehicle. This is because Congress treats light-weight vehicles as "Luxury Automobiles" (go figure
), with strict limits on write-offs that do not apply to heavy gas guzzler vehicles. The Standard Mileage Rate employee reimbursement for use of a personally-owned vehicle is often thus the only way for a small corporation owner to be patriotic and save on imported oil.
Substantial Tax Free Profits. Let's take a quick look at how well this can work, assuming a pretty typical business use of 18,000 business miles per year for an active business person.
Reimbursed at the new 55 1/2 cents per mile Standard Mileage Rate, that's $9,990 per year of tax write-off if you are the business owner, or $9,990/year in reimbursement to you if you are the employee.
To drive a Toyota Prius 18,000 miles per year would only use about 360 gallons of gasoline. I know since I own one, and if you get less than 50 mpg you've got a "lead foot". At $4 per gallon that gasoline would only cost you $1,440 -- so you are still $8,550/year ahead of the game.
You still have to pay for the car. Let's say you expect the car to last 120,000 miles before it would be sold for an old Prius value of, say, $5,000. (Yeah, used fuel-efficient cars are worth more these days
.) If you paid $25,000 for the car new, that's equivalent to burning through about 17 cents of the cost of the car for every mile you drive, or only about $3,000/year for the business miles portion driven each year. So you're still $5,550/year ahead of the game.
If you need to spend anywhere near $5,550/year to register, maintain, insure and repair a brand new car, there's something very wrong -- so it's clear that getting paid tax free 55 1/2 cents per mile to drive a Prius is a great deal. If you did this for five years and only cleared $2,000/year you would have tax free income of $10,000 over that period, for a nice down-payment on your next car.
How Good Can This Get? Many people are wondering why anyone would buy an all-electric car that is essentially only a local vehicle. A business vehicle used only for local sales and service calls may be just the right niche.
A Nissan Leaf, for instance, is designed to have a range of 100 miles per charge. Using our assumptions of 18,000 business miles per year, that business person would average about 75 miles of local driving per business day, so they could do their business runs with a margin of safety, and the business might also invest in a quick-charger for unusually busy days.
The Leaf uses no gasoline, and is expected to require about 24 kWh to charge it up for 100 miles of usage. At today's average residential electric rates that's likely to cost about $2.75 per 100 miles. For 18,000 business miles we're only talking a "fuel" cost per year of about $500. Subtracted from the $9,990 Standard Mileage Rate, we're starting about $9,500/year ahead of the game before we pay for the Leaf.
The Leaf is more expensive than a Prius but after a $7,500 Federal Tax Credit it is designed to be essentially in the same price range, so we can use roughly the same 17 cents/mile for using up the value of the car, or abour $3,000/year for the business use portion. So we're still $6,500/year ahead of the game.
I'm no expert on Leaf registration, insurance, and maintenance costs, but again, if you come anywhere close to $6,500/year for those costs there is something very wrong. Since we are ahead of the Prius by about $1,000/year, over a five year period it might be reasonably possible to clear $3,000/year of tax free income -- or about $15,000 to put toward your next car.
What Happens as Gas Prices Rise? This is likely to keep getting better as gas prices rise, because the IRS will keep raising the Standard Mileage Rate until the average business owner is also using a fuel efficient vehicle.
For the good of the country, we hope that day comes sooner rather than later, but for now there is a clear advantage for "early adopters" to use their fuel efficient cars for business. They can almost rival the oil companies with the tax breaks* they can gain from doing so.
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