If you plan to finance the purchase of a new vehicle this year you’ll want to determine in advance if the interest on your vehicle loan will be deductible. Of course, in the world of the IRS and taxes, there is generally no simple answer. The interest on a vehicle loan is no exception. To determine whether or not the interest you pay on a loan to purchase a vehicle depends on;
- How the vehicle is being used (business vs. personal)
- The tax form used to report the deductible expenses
- The type of loan
If you obtain a consumer loan that is secured by your new vehicle, then the following rules apply.
- If you use the vehicle for both business and personal and you use the self-employed business schedule to deduct the expenses, then the business portion, and only the business portion, of the interest will be deductible.
- If you use the vehicle at least partially for business as an employee and the expenses are being deducted as an itemized deduction, then the interest on your loan is not deductible.
- If the vehicle is only for personal use, then no deduction is allowed. The only interest that is still deductible as an itemized deduction is home mortgage interest and investment interest.
Another approach to consider if you believe the interest deduction could be to your advantage is to use a home equity line of credit to finance the purchase of your vehicle. In general, current tax law allows individual taxpayers to borrow up to $100,000 of home equity and deduct the interest on that loan as home mortgage interest. This applies even when the loan is used to purchase a vehicle.
Before you rush out to borrow against your home there are a few things you should consider.
Make sure you can pay the home equity line of credit off over the same period of time you would have had to pay the consumer loan. Otherwise, you may reach retirement age without having the home paid for or worse. Don’t forget the trouble many taxpayers ran into during the last recession by borrowing heavily against their homes and counting on appreciation.
When buying a vehicle, you can often get very favorable interest rates or a rebate. Make sure you compare the difference in total loan payments over the life of the loans to the rebate amount and weigh the benefits of interest deduction vs. rebates to determine the best option.
Last but certainly not least, if there is any chance of defaulting on the home equity loan, it is likely not the best course of action. Defaulting on any loan is bad but the repercussions from defaulting on a home loan are far more serious than on consumer debt.
If you have any questions about the tax related issues related to financing the purchase of your next vehicle, please give me a call.