Many employees use their personal vehicles for company business, and many businesses reimburse employees for auto expenses the employees incur while on company business. If done the right way, employers receive a tax deduction for the reimbursement, and the reimbursement is tax-free to the employee.
Employers can reimburse the actual auto expenses of employees under an accountable plan to be subject to the favorable tax rules above. Instead of reimbursing actual auto expenses, employers may also reimburse employees through a mileage allowance regardless of the actual amount spent for auto expenses and still be subject to the favorable tax rules above.
Reimbursing Employees With a Mileage Allowance
A mileage allowance is an allowance paid under an accountable plan that meets the following requirements:
- the allowance is paid for ordinary and necessary business expenses incurred by an employee for auto expenses in connection with the performance of services for the employer
- the allowance is paid at the applicable business standard mileage rate, under a flat rate, or stated schedule, or in accordance with any other IRS-specified rate or schedule
Employers may reimburse an employee at a higher rate than the standard mileage rate of 57½ cents (for 2015) if the reimbursement rate is reasonably calculated not to exceed the amount of expenses incurred by the employee. However, only the portion of the reimbursement rate equal to the standard mileage rate is treated as under an accountable plan and qualifies for the favorable tax treatment.
ABC Corp reimburses its employee, John, at a rate of 60 cents per mile even though the standard mileage rate is 57½ cents per mile. John drives 300 miles on employer business. The tax treatment is as follows:
Total reimbursement $180.00 (60 cents times 300 miles)
Reimbursement at Standard Mileage Rate $172.50 (57½ cents times 300 miles)
Excess Reimbursement $7.50
The $172.50 reimbursement is deducted by ABC Corp and is tax-free to John. The $7.50 excess reimbursement is deducted as payroll by ABC Corp and is taxable income to John. The excess reimbursement is subject to payroll taxes to ABC Corp and is subject to FICA tax to John.
Advantages of Using a Mileage Allowance
Reimbursing an employee under a mileage allowance has the following benefits over reimbursing actual expenses:
- Reduced substantiation: mileage allowances eliminate the need for employees to gather documentation supporting the amount spent for automobile expenses. While employees don’t have to substantiate the amount of auto expenses, they must still substantiate the other elements of the auto expenses such as dates, locations, miles, and business purposes of the trips.
- Retaining excess reimbursements: if the mileage allowance at the standard mileage rate exceeds the actual expenses of the employee, the employee may keep the excess reimbursement tax-free. Normally, excess reimbursements under an accountable plan must be returned to the employer.
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Buzzkill Disclaimer: This post contains general tax information that may or may not apply in your specific tax situation. Please consult a tax professional before relying on any information contained in this post.