Leasing business autos.

• Author: Ellentuck, Albert B.

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Automobile leases have certain advantages. They require a minimal investment and are convenient if the customer replaces the car every two or three years. With a lease, there is no hassle with selling or trading in the car. Instead, the lease customer simply drops it off at the end of the lease and arranges another lease for a new one.

Leases are normally worth considering if lease customers do not intend to drive the car beyond the end of the lease term and want to minimize their cash outlay. However, lease customers also must be prepared to maintain the car and stay within the mileage allowance; otherwise, they will be charged for excess wear and tear and mileage when the car is turned in.

Lease Income Inclusion Rule for Luxury Autos

When a taxpayer leases an auto and uses it in a trade or business, the business use percentage of the lease expense can be deducted if the actual cost method for claiming auto expenses is used. However, to achieve approximate parity with the depreciation limitations that apply to owned luxury cars, the IRS releases an annual table of leased "income inclusion" amounts that apply to luxury cars leased for 30 days or more. The annual income inclusion amount is subtracted from the lessee's lease expense for the year to determine the net deduction for the year (Sec. 280F(c)(2)). The deductions of the car's owner (the lessor) are not affected by this adjustment (Sec. 280F(c)(1)).

The amount to be included in income depends on the auto's fair market value (FMV) on the first day of the lease term. There are two parts to the income inclusion table; the first part is for autos other than trucks and vans/SUVs, and the second part is for trucks and vans/SUVs. This is due to the higher depreciation limits for trucks and vans/SUVs.

The FMV of the leased auto is the amount that would be paid to buy the car in an arm's-length transaction. The FMV for the leased income inclusion rules is the capitalized cost of the auto, if that cost is specified in the lease agreement (Temp. Regs. Sec. 1.280F-5T(h)(2)). If the capitalized cost is not furnished in the lease agreement, the leasing customer might refer to a publication (such as one of the NADA guides or the Kelley Blue Book) or a database that reports new or used car retail prices.

Observation: The annual gross lease income inclusion is minimal compared with the depreciation limits on passenger autos. However, the lease income inclusion amount represents...