The basics of buying a business vehicle
Here's what you need to know about the transaction to make the tax code work for you instead of against you.
If you're a mobile practitioner, your vehicle probably sees plenty of use on a daily basis. If you feel it's time to trade it for a newer model, you'll need to consider a variety of factors to make sure you get the most for your money. Some of those factors include tax considerations. Here's an overview of the rules that apply to selling a practice vehicle and some pointers on achieving the best tax results.
In general, the sale of any business-related asset produces a gain or loss depending on the amount you receive from the sale and your "basis," or your cost for tax purposes. If you bought the asset, basis usually equals your cost less the depreciation deductions you've claimed over the years. If you trade in an old asset for a new one, this transaction doesn't result in a gain or loss, and the new asset's basis will equal the old asset's remaining basis plus any cash you paid to trade up. The rules are generally the same for business vehicles, with a couple of extra twists.
WHEN TO TRADE IN
As a general rule, you should trade in your old business vehicle if you used it exclusively for business driving and its basis has been depreciated down to zero (or almost zero). For example, imagine you're an equine practitioner and you use a pickup truck for making farm calls—in other words, you use it exclusively for business. The trade-in often avoids a current tax.
If you sell the truck for $9,000 but your basis in it is only $7,000, you'll have a $2,000 taxable gain. If you trade it in, you'll avoid the tax. Instead, the new vehicle's basis is the cost less the deferred gain computed as if you had sold it to the dealership. Let's say you trade in the old pickup for the same $7,000 and the cost of the new vehicle is $35,000. For tax purposes, the depreciation basis will be $33,000 ($35,000 less the $2,000 deferred gain).
WHEN TO SELL
However, you should skip the dealership and sell your old business vehicle for cash if 1) you used it exclusively for business driving and 2) depreciation on the old car was limited by the annual depreciation dollar caps. The annual depreciation dollar caps extend the period of time it will take to fully write off the cost of the vehicle.
For example, imagine you bought a $30,000 car several years ago and used it solely for business driving. Because of the annual depreciation dollar caps (limited depreciation), you still have a $16,000 basis in the car, which has a current value of $14,500. Now you want to buy another $30,000 car. If you sell the old car, a $1,500 loss will be recognized ($16,000 basis less the $14,500 sale price). If you trade in the old car for a new one, there will be no current loss. Of course, if the old car's value exceeds its basis, the tax-smart move is to trade it in and avoid a gain.
The rules are more complicated if you used your car partially for business and partially for personal use. This may be the case if you're self-employed as a relief veterinarian or an employee required to supply a car for business use.
If you sell the car, you must allocate cost and depreciation between the business and personal portions. Gain or loss on the business part is recognized. Gain (but not loss) is recognized on the personal part.
The rules are complicated, but the takeaway here is to make sure that before you sell or trade in your car or truck as a practice vehicle, you discuss the matter with your tax advisor. Once business use and taxes are involved, nothing is as simple as it seems.
Veterinary Economics Editorial Advisory Board member Gary Glassman is a partner with accounting firm Burzenski and Co. in East Haven, Conn.