A standard mileage rate is the dollar amount per mile imposed by the Internal Revenue Service (IRS) when calculating the deductible costs for business use of automobiles. The standard mileage rate is also known as deductible mileage or per diem. It can be used to reduce taxable income and ultimately the tax burden for companies that operate vehicles in their operations.
Taxpayers take advantage of the allowable standard mileage rate to reduce their income taxes instead of using the actual expense incurred as it is easier to calculate. The rate includes the costs of wear and tear, insurance, gas, oil, license and other registration fees, as well as other maintenance and repair expenses.
A standard mileage rate is set by the U.S. Internal Revenue Service (IRS) to be used by taxpayers to calculate the allowable deduction for using business automobiles.
The IRS announces standard mileage rates every year, which changes regularly to incorporate the effects of inflation.
Standard mileage rates for 2020 were 57.5 cents for business vehicles, 17 cents for medical vehicles, and 14 cents for charity vehicles.
Understanding Standard Mileage Rate
Under the Tax Cuts and Jobs Act of 2017 (TCJA), taxpayers are allowed to reduce the tax basis of business automobiles by the greater amount of depreciation that is either allowed or claimed for the car. There are two ways proposed by the IRS in calculating the cost of operating vehicles for business purposes. One is the actual expense method, which involves deducting actual expenses, such as gas, oil, garage rent, insurance, legal payments, etc.
The standard mileage rate is the second approach used to determine the total amount of the expenses. The method yields greater deductions for small businesses using fuel-efficient cars compared to the first method. Regardless, each method comes with its advantages and disadvantages, and taxpayers can choose the method that benefits them most.
The IRS sets and releases the standard mileage rate every year. The inflation rate is factored into the yearly reported standard mileage rates. Also, the IRS procedure dictates that any year in which a business standard rate is used, a per-mile amount is treated as either the depreciation allowed for that year or depreciation claimed by the taxpayer.
How the Standard Mileage Method Works
The standard mileage rate goes hand in hand with one of the U.S. principles of a good tax policy, emphasizing simplicity. According to the simplicity principle, a good tax policy should be simple to benefit a taxpayer’s understanding and cost-effective compliance.
In such regard, the standard mileage rate is a simple method for calculating the business use of a vehicle. A taxpayer does not need to track individual costs and save receipts. Instead, only the mileage record for every tax year is required.
To show where the mileage stood at the beginning of a tax year, one needs to take a photo of the odometer reading on the first day of the year and save it or use an application, such as Mile IQ. A standard mileage rate operates the same way as other tax deductions; hence the percentage of mileage applicable to business is important.
Standard Mileage Rates for 2020
To come up with these standard mileage rates, the IRS extrapolates Runzheimer International’s yearly data, which captures auto data variables, such as depreciation, maintenance costs, insurance, and other costs involved in operating a vehicle. The business standard mileage rate provided by the IRS cannot be used to claim some itemized deductions, such as traveling expenses realized when an employee is under suspension.
In 2020, the IRS issued standard mileage rates per mile for various categories under Notice 2020-05. The standard mileage rates were 57.5 cents for business automobiles, 17 cents for medical purposes, and 14 cents per mile for charitable activities. Also contained in the notice are the amounts to be used by taxpayers in computing a business standard mileage rate for depreciation expenses.
In 2020, 27 cents of the 57.5 cents per mile rate accounted for the costs of depreciation. An automobile’s fixed and variable costs of driving are used to determine a business standard mileage rate.
On the other hand, the standard mileage rate for medical purposes is derived only from the variable cost of driving, whereas the standard mileage rate for charity purposes is derived from the established laws for operating a car for charity purposes.
How to Calculate Deductible Income Tax
The amount to be deducted for income taxes is determined by multiplying the business mileage for the year by the standard mileage rate for that specific year. A business standard mileage rate is permitted for up to four cars, and a taxpayer must own or lease one to claim the benefits.
The IRS categorizes five or more cars under fleet operation. A standard mileage rate must be used in the first year a car is used for business purposes lest the method is denied for use for that particular vehicle.
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