Is Buying a Car Tax Deductible?
Buying a car for personal or business use may have tax-deductible benefits. The IRS allows taxpayers to deduct either local and state sales taxes or local and state income taxes, but not both. If you use your vehicle for business, charity, medical or moving expenses, you could deduct the costs of operating it. Some vehicles even come with federal and/or state tax credits.
Tax deductions for personal vehicles
Car sales tax
You may be able to deduct the car sales tax you paid when you bought a new or used vehicle from a dealer or private seller. The amount owed in car sales tax will be clear on the purchase order that’ll state your TT&L (tax, title and licensing) fees.
Both states and local governments can charge sales tax. For example, the California car sales tax is 7.25%; of that, 1.25 percentage points go to local governments. Local governments can, however, charge more on top of that state rate. So, if your municipality charges an additional 0.50 percentage points, your California car sales tax would be 7.75%.
States with no car sales tax
Alaska’s municipalities may impose their own local sales tax, while Montana, Delaware, New Hampshire and Montana charge neither state nor local sales tax.
Property taxes
Some states also charge personal property taxes on vehicles in addition to sales tax. In order to deduct it, the tax must be charged to you on an annual basis. Property taxes are generally based on a car’s value — the higher the value, the more you’ll pay and vice versa.
How to deduct sales tax and property tax
The IRS only allows you to deduct up to $10,000 total in sales, income and property taxes ($5,000 total if married filing separately). So when you itemize, you’ll want to compare you sales and income tax and deduct whichever is larger. If your state doesn’t charge sales tax (like those listed above), or doesn’t charge income tax (like Texas), the decision is a no-brainer.
If your state charges both, you may need to play with the numbers. Tax preparation programs, many of which allow taxpayers to file federal returns for free, may be able to help you calculate your best approach, but here are two strategies:
- Itemize. This method requires that you keep receipts (or photos of receipts) of everything you buy for the year, then add up the sales tax to account for deductions. To do this, you would use the IRS’ Schedule A (Form 1040). Property taxes or other value-based fees would be entered on Schedule A’s “state and local personal property taxes” line.
- Take the standard sales tax deduction, plus big-ticket items. Rather than meticulously keeping receipts, you could use the IRS sales tax deduction calculator to estimate what your standard sales tax deduction would be based on your income, family size and ZIP code. It allows you to add the sales tax you paid for big-ticket items — such as a car, recreational vehicle (RV) or boat — to get an estimate.
Tax deductions for business vehicles
If you use your car for business purposes, you may be able to deduct operating expenses on top of taxes and fees — so you could ultimately end up with a larger deduction. There are two main ways of doing this.
Deduct car mileage
The IRS offers a list of standard mileage deduction rates for taxpayers who drive for business, charity, medical or moving expenses.
The rate depends on the purpose. For example, if you drove 5,000 miles for business in 2021, you could claim 56 cents a mile, which comes out to a $2,800 deduction. If you drove 500 miles for charity, you could claim 14 cents a mile, which comes out to $70.
Deduct car depreciation
There are three ways for small business owners to calculate car depreciation deductions. The first is the “actual expense method,” which uses straight-line depreciation. The other two ways are more logarithmic, which could help small business owners by allowing for a larger car tax deduction earlier.
The details can get pretty extensive, so you should read about deducting car expenses in IRS Publication 463. If you have any questions, ask an IRS customer service agent or seek a tax professional.
How to determine personal vs. business use
If you drive the same vehicle for business and personal use, you can only take advantage of tax deductions on the cost of its business use.
You’ll need to keep track of how many miles you drive for business specifically and base your tax deduction on the mileage rate. The IRS offers more details on the business use of a car.
Tax credits for electric vehicles
Buyers of all-electric or plug-in hybrid vehicles may be eligible for a federal income tax credit up to $7,500 — that’s in addition to possible state or local incentives. Keep in mind that federal credits are based upon manufacturer production — Teslas sold after Dec. 31, 2019, for example, are no longer eligible, but a Toyota RAV4 Prime is (as of March 2022). Look up a vehicle you’re interested in here.
LIMITATIONS:
As we mentioned earlier, the IRS limits the total amount of credit per vehicle to $7,500. If you owe less than that to Uncle Sam, the difference disappears. For example, if your tax credit is $7,500 but you owe $6,000 when you file taxes, you don’t get a check for the difference — $1,500 — nor does it apply to your taxes for next year.
Frequently asked questions about car tax deductions
What documentation do I need to prove the sales tax I paid?
Keep the purchase order and/or finance contract when you buy a car so you have the right documentation to account for how much you paid. If you’ve lost that paperwork, call your lender and ask for a copy. The selling dealership may or may not keep a copy as well.
Do I need different sales tax documentation if I lease a car?
Whether you lease or buy a car, you’ll pay sales tax, so a purchase order works in both cases. The lease contract would also suffice.
Could I deduct car tax credits?
Yes, certain cars come with federal and/or state tax credits, especially electric and plug-in electric vehicles (PHEVs).
What type of vehicle operation expenses could I deduct?
Besides mileage and depreciation, business owners may be able to deduct the following costs: gas, oil, tolls, insurance, parking fees, garage rent, registration fees, repairs, tires and car lease payments.
Is buying a car for tax deductions worth it?
If you’re after a quick tax credit, you might want to look at something like solar panels rather than a vehicle. But if you do need a car, it probably won’t hurt to get one with a large tax credit attached. There are, of course, many different factors to consider: Here are 15 questions to ask when buying a car.