The Tax Advantages of Business Car Leasing vs. Buying
If you are considering car leasing for your business, you may be wondering if it is better to lease or buy. Here are some factors to consider, including which one gives your business a better tax break.
Loan Payments vs. Lease Payments
Buying a car means a loan for a specific amount which you will have to pay back even if the value of the car goes below the amount of the loan. This can happen if the car is in an accident, for example. With car leasing, the residual value at the end of the lease can lower the lease cost, and if you get a closed lease you can walk away without penalty.
Here are some factors to consider in your decision to lease vs, buy a business vehicle:
Taxes and Leased vs. Purchased Vehicles
Depreciation: "The depreciation deduction is not available to businesses that choose to lease vehicles instead of purchasing them as these are typically operating leases, Tara Alford, Senior Tax Accountant at CS&L CPAs, said in an email. "Instead, the business is allowed to take a deduction for the lease expense."
Depreciation is a deductible expense for the cost of the vehicle, spread over its useable life. Accelerated depreciation, including a section 179 deduction or bonus depreciation, may be available for a purchased business vehicle. These increase the amount of deductible expense in the first year the vehicle is owned and used by your business.
To get a depreciation or Section 179 deduction, you must use your car more than 50% of the time for business driving.
Mileage Expenses: If your business is a sole proprietorship filing Schedule C, you can deduct mileage expenses for both leased and purchased vehicles. Corporations or partnerships must record actual auto expenses. Higher mileage for a car you own can reduce its resale value. Leased cars have mileage limits, and you can be penalized for going over the limit.
You can use either the standard mileage rate or actual costs for a leased car. But if you want to use the standard mileage rate for a leased car, you must start using this rate the first year the car is available for your business and use it for the entire lease.
Alford also explained that it doesn't matter who is driving – the business owner or an employee – when considering whether to lease or buy, except when it comes to personal use of the vehicle. But she said the business owner has more control over this personal use.
For both leased or purchased cars you use in your business, you must keep track of mileage and separate it out between business and personal driving. You can use a written log in the car or try a mileage app.
"In addition to tax benefits," Alford added, "businesses should also consider whether cash flow is a factor in the decision. If a business is considering purchasing a vehicle, planning for the timing of the purchase may provide a welcome tax benefit on its tax return."
Other Factors to Consider in Your Decision
Initial costs: Up-front costs for leasing and buying are different (down payment vs. first month/security deposit), so you would need to consider these on a case-by-case basis.
Insurance: For both leasing and ownership, you will need to give the seller proof of insurance in a specific minimum amount.
Wear and tear: On a car you own, excessive wear and tear (all those little dings in the body) can reduce resale value. With a rental car, you may be charged if the wear and tear are "excessive."
End of term: With a purchased car, you can do what you want with the vehicle at any time. With a leased car, you decide between buying the car or turning it in. Of course, the dealer may give you a deal to lease another one.
Questions to Ask Yourself Before You Decide
Do you have the cash for a down payment? If you are concerned about putting up cash from your business for a down payment, consider a lease. Some leases do not require a down payment, but most car loans do.
How many miles will you be driving each year? Take some time to determine how much your business vehicle will be driven. Car leasing terms include a limit on mileage and you will have to pay more for the lease if you want additional miles covered. Car purchases, on the other hand, do not have a limit on miles.
What do you want to do with the car at the end of the lease? When you have paid back a car loan, you still own the vehicle and you can keep it, sell it to an employee, or use it as a trade-in. At the end of a car lease, you give back the leased vehicle and get another one, or you can negotiate a purchase with the dealer.
Alford concluded with the minimum factors to consider in a lease vs. buy decision:
- Whether the vehicle would be financed or would be purchased with cash
- The financing rate
- How long the car is intended to be owned
- Anticipated annual mileage, and
- Whether there are any deduction limitations.