Great Time (Taxwise) to Buy a New Car

Changes in the tax law provide several breaks for purchasing a new vehicle. These changes, combined with dealer incentives, make it a great time to purchase a vehicle. As your car ages, decide whether it’s more economical to continue using it or replace it with a new car. Take into account its fuel economy versus the fuel economy of today’s models.

Treatment of Dealer Incentives

Dealers are offering cash back and zero-rate or low-interest financing to induce you to buy a new vehicle. Dealer incentives are not taxable.

Cash backs (rebates) are treated as a reduction in the purchase price. If you are buying the vehicle for business, the rebate reduces the basis in the vehicle for purposes of figuring depreciation.

Deduction for State Taxes

You can deduct state and local sales and excise taxes for the purchase of a new vehicle on or after February 17, 2009, and before January 1, 2010. The deduction can be claimed as an adjustment to gross income or as an itemized deduction for state and local sales taxes as long as you do not deduct state and local income taxes as an itemized deduction; no double benefit is permitted. It should be noted that by claiming the deduction as an adjustment to gross income, the deduction does not trigger or increase alternative minimum tax.

There is no dollar cap on the amount of taxes you can deduct, but you can only take into account taxes on the purchase price up to $49,500.

The deduction applies to “qualified motor vehicles,” which includes a factory-new passenger car, SUV, light truck, or motorcycle with a gross vehicle weight rating of no more than 8,500 pounds. The term also includes a motor home if the original use of the home commences with the taxpayer.

The deduction can be claimed only by those with modified adjusted gross income (MAGI) below certain limits. The full deduction is allowed for singles with MAGI up to $125,000 and for joint filers with MAGI up to $250,000. The deduction phases out for singles with MAGI between $125,000 and $135,000, and for joint filers with MAGI between $250,000 and $260,000; no deduction is allowed for singles with MAGI over $135,000 and joint filers over $260,000.

Tax Credit for Certain Purchases

If you purchase a vehicle powered by alternative fuel, such as a hybrid, you may be eligible for a federal tax credit. The options include:

• Credit for hybrid vehicles. There is a credit for purchasing a hybrid vehicle. The IRS sets the amount of the credit, which varies with the make and model; it ranges from $250 to $3,000. Note: No credit can be claimed for buying a hybrid Toyota or Honda at this time; only a partial credit applies for a Ford hybrid.
• Credit for vehicles running on compressed natural gas. Like the hybrid credit, the IRS sets the amount of the credit. Currently, the credit for buying the Honda Civic GX Model Year 2008 is $4,000.
• Credit for plug-in electric vehicles. The basic credit for purchasing a plug-in electric vehicle is $7,500 for vehicles weighing up to 14,000 pounds that have a battery capacity of at least 5 kilowatt hours. There is a minimum credit of $2,500 for plug-in electric vehicles with battery capacity of fewer kilowatt hours.
• Credit for low-speed plug-in electric vehicles. There is a 10% nonrefundable credit for low-speed vehicles, motorcycles, and three-wheeled vehicles that would have qualified for the regular plug-in electric vehicle credit but for the fact that they do not have four wheels. The maximum credit, which applies for vehicles purchased after February 17, 2009, is $2,500.
• Credit for converting to a plug-in electric vehicle. There is a credit for converting any motor vehicle into a plug-in electric vehicle. The credit for conversion is 10% of the cost, up to a top credit of $4,000. To qualify for the credit for converting a vehicle, the minimum battery capacity must be 4 kilowatt-hours. The conversion credit runs only for 2010 and 2011.

Higher Dollar Limits

If you use your vehicle for business driving, you can opt to deduct your actual expenses (rather than claiming an IRS-set standard per-mile allowance). Actual expenses for a car you own include a depreciation allowance. You can deduct an additional $8,000 as your depreciation allowance for a new vehicle purchased in 2009. The $8,000 represents 50% bonus depreciation, a rule in effect for 2009. Bonus depreciation does not apply to preowned vehicles.

The first-year dollar limit on depreciation for vehicles purchased in 2009 is $10,960 for those qualifying for bonus depreciation; the limit is $2,960 for those that do not qualify (e.g., preowned cars). The dollar limits are slightly higher for the purchase of light trucks and vans ($11,060 with bonus depreciation and $3,060 without bonus depreciation).

If you use the standard mileage allowance, you can deduct business driving at 55¢ per mile.