Phillip G. Sinclair

"Buy or Lease" Decision

Who should acquire it?
In most cases it is better for a business to acquire a car than for an individual to do so-no matter whether the car is bought or leased. An individual who is an employee of his/her business must deduct car costs among miscellaneous itemized expenses, the total of which is deductible only to the extent it exceeds 2% of Adjusted Gross Income. Thus, an individual may not be able to personally deduct the full costs associated with buying or leasing a car. But businesses are not subject to any such deduction limitation. They can claim full deductions, and often larger deductions overall.

Idea: Even if a car will be used entirely for personal purposes, the business can own the car and let you use it. You will be charged with income-but only based on the lease value (taken from IRS tables). The company can deduct all its costs because they have become compensation to you.

Example: A business buys a car costing $20,000 and lets a key employee use it 100% for personal purposes. The lease value of this car is about $5,600 a year, which is treated as additional compensation. If the employee pays an effective tax of 31%, the after tax cost to him is only $1,736 a year-much less than acquiring a car for himself.

This method takes into account the value of insuring and maintaining the car, but not the value of fuel.

Deductible costs
The costs of using a car for business are deductible. These are for...

• Purchased car depreciation and operating costs.
• (Leased car lease payments and operating costs.
• Driving expenses
• Instead of actual expenses, the IRS standard mileage rate can be used to claim deductions for either owned or leased cars. In 1999, the standard rate is 32.5 cents per mile from January 1 through March 31...and 31 cents per mile for the balance of the year.

Luxury cars
Annual depreciation limits apply to "luxury cars. The tax law considers any car costing more than $15,500 in 1999 to be a luxury car. For cars placed in service in 1999 the annual depreciation limits are...

• $3,060 for the first year.
• $5,000 for the second year.
• $2,950 for the third year.
• $1 775 for each year thereafter.

Note: Those who lease luxury cars are required to include in income an 'inclusion amount" taken from IRS tables, which is based on the value of the car when the lease commences. But the inclusion amount is very modest, even for upper-end cars, so leasing remains attractive.

"Heavy" luxury car loophole: The luxury car depreciation limits do not apply to cars weighing more than 6,000 pounds. Many large sport utility vehicles fit this weight category. Most luxury car manufacturers-such as Cadillac, Lexus, and Mercedes-now make heavy models as well. Depreciation write-offs for these vehicles have no annual dollar limits. Full depreciation is allowed, which generally is...

Year 1: 20.00% Year 2: 32.00% Year 3: 19.20%

Year 4: 11.52%  Year 5: 11.52%  Year 6: 5.76%

Payoff: If a heavy luxury business car is owned for only three years, more than 71% of its cost will have been depreciated by the end of that period-far more than allowed for a normal-weight luxury car.

Idea: Where the luxury car limits do not apply the vehicle is treated like other business equipment eligible for the additional first year expensing election. Under this rule, up to $19,000 can be written off in the first year, in addition to the regular depreciation deduction. Hence, a $20,000 car can be written off almost entirely in the first year.

Other factors
The buy/lease decision also will be influenced by non-tax factors...

• How long you keep the car. If you plan to keep it only a year or two, leasing may be preferable.
• How much you drive the car. If you expect to put on high mileage, leasing may not be practical. Leases typically impose a mileage limit of about 15,000 per year, with a cents-per-mile rate for excess mileage. Buying a car may be preferable to incurring excess mileage costs on lease termination. When a high-mileage car that is owned is traded in after a year or two, its value for trade-in purposes generally doesn't reflect the extent of this mileage-value is usually based on the blue book figure with some adjustment for mileage.
• Quality of car. Leasing may be the only way for some people to get a higher priced car. Buying a high-priced car generally requires a substantial down payment. But leasing usually requires a deposit of only one or two lease payments.
• Asset protection. Where there is any concern about getting sued, leasing is better than owning. Reason: A car that is owned can be attached by creditors while a leased car cannot.

Should you buy or lease that new car? Click here to go see which is better.

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Last Updated 02/01/2000