Need a new company car? Why not get Uncle Sam to help pay for it?
For business owners, there are many hidden savings in the tax code. Take that new company car, for instance. If you're willing to jump through a few hoops, you can use the Internal Revenue Code to get the government to pay 40 percent or more of the cost of your new luxury car.
Here's how it's done. First, you need to own an interest in an active trade or business -- active meaning that it's some type of operating company or active business entity. You'll also need to create a new entity, a leasing company, that will purchase the vehicle and lease it to your active company. This entity must have flow-through taxation, preferably an S corporation, though other types of business entities without a federal level of taxation will work.
Your operating company can then enter into a fair market written lease agreement with your leasing company for the vehicle. The dealer that sold you the car can assist you in what the cost would be to lease it, and you must have more than a single car in your leasing company.
So far, so good. Let's use a hypothetical example to show what happens next. Let's say you own a profitable operating company and have a second entity, or create a second entity, that owns your office equipment, computer equipment, other personal property, maybe even an office building that you will or are currently leasing to your operating company. You have done well and decide to reward yourself with a vehicle that you only use for business. The vehicle's purchase price is $125,000 -- though it could be any type of vehicle and at any price, so long as the maximum first-year depreciation for 2007 is $125,000. Your leasing company purchases this vehicle and enters into a lease with your operating company to lease the car. Since you have exceptional credit, the bank does not require any down payment for your vehicle, or you have the company take a conventional loan.
On your 2007 leasing company income tax return, you have net leasing income, before the automobile purchase, in this example of $125,000. The $125,000 of net leasing income will end up on your personal income tax return, as it is an S corporation, and cause you to incur $50,000 of income tax -- that is, $125,000 of income at a 40 percent tax rate.
Since the leasing company purchased the vehicle and has it in service by Dec. 31, 2007, you can use a first-year bonus depreciation, IRC §179, and deduct the full vehicle's purchase, up to $125,000, in 2007. This depreciation deduction, reduces your leasing company's income by $125,000 to $0. Since your income has been reduced, your corresponding income tax has been reduced in 2007.
Your income tax, in this example, has now been reduced by $50,000 for 2007. In other words, you get the car and the government just allowed you to reduce your current year's taxation by $50,000. Just like that.
What's the bigger lesson here? Any time you do a business transaction, remember to look at how it can be structured to give you a tax benefit. Many times it means you'll need an experienced tax lawyer to read through and interpret the tax code in order to determine how this complex jigsaw puzzle gets put together. Often there are unexpected savings -- like $50,000 off a new luxury car -- open to business owners. The tax code is a massive, complicated document, and you'll be surprised what you can find in it.