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Steer around the tax limits on ‘luxury’ vehicles

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in Small Business Tax,Small Business Tax Deduction Strategies

You may suffer a severe case of sticker shock the next time you’re shopping for a car. However, the federal income tax depreciation deductions available to business drivers for vehicles placed in service in 2006 have barely increased or stayed the same (see chart at left).

A new IRS ruling breaks down the maximum depreciation deduction allowed for so-called luxury vehicles. (IRS Revenue Procedure 2006-18) That name may sound like you’re depreciating only Mercedes and Ferrari vehicles. But a luxury car in the IRS’s eyes is any car with a fair market value above $14,200.

Strategy: Avoid these depreciation limits by buying a heavy-duty sports utility vehicle (SUV) for your business. Despite a recent crackdown on such write-offs, it’s still a good tax move to buy an SUV that exceeds the prescribed weight limits. Here’s why:

The American Jobs Creation Act of 2004 capped deductions of heavy-duty SUVs at $25,000 if the vehicle was placed in service after Oct. 22, 2004.

But $25,000 is still better than the meager depreciation limits you’ll face under the 2006 luxury car limits at left.

Remember that the luxury car limits are based on 100 percent business use.

For example, if you buy a new car in 2006 and use it 80 percent for business, your first-year depreciation deduction is limited to $2,368 (80 percent of $2,960). Similarly, the $25,000 limit for SUVs must be adjusted according to business use.

If you lease a luxury car instead of buying it, you can deduct the part of the lease payment attributable to business use.

But the IRS effectively imposes luxury-car caps on the lease payments by requiring lessees to include a specified amount in taxable income each year. The amounts are listed in IRS tables located at www.irs .gov/publications/p463/ch01.html.

Tip: The lease inclusion amounts are the same for 2006 as they were in 2005. For a car placed in service this year, the tables must be used for a car with a fair market value above $15,200.

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