Sales Tax Deduction for Vehicle Purchases - American Recovery and Reinvestment Act of 2009

While other provisions of this legislation will affect significantly more people, the new vehicle sales tax credit is of particular interest to me - my **** recently experienced a sudden and unexpected transmission failure – guess what I’ve been shopping for?

From THE AMERICAN RECOVERY AND REINVESTMENT ACT OF 2009 – FEBRUARY 12, 2009 - FULL SUMMARY OF PROVISIONS FROM SENATE FINANCE, HOUSE WAYS & MEANS COMMITTEES”

"Sales Tax Deduction for Vehicle Purchases. The bill provides all taxpayers with a deduction for State and local sales and excise taxes paid on the purchase of new cars, light truck, recreational vehicles, and motorcycles through 2009. This deduction is subject to a phase-out for taxpayers with adjusted gross income in excess of $125,000 ($250,000 in the case of a joint return). This proposal is estimated to cost $1.684 billion over 10 years."

Here’s a quick history:

The American Jobs Creation Act of 2004 allowed taxpayers to elect to claim either sales taxes or income taxes paid as an itemized deduction (but not both). Since most taxpayers would find keeping receipts and adding up the total sales tax paid for the entire year slightly burdensome, the IRS created pub 600, which calculated a sales tax deduction based on income, state sales tax rates, and exemptions claimed (an additional deduction could be claimed based on local sales tax). Taxpayers who purchased certain “big ticket items” like cars could add the sales tax on that purchase to the amounts from the tables.

Who does this benefit?

Taxpayers who itemize: The largest itemized deduction I generally see are property taxes and interest paid on a primary residence – most of my clients who own a home itemize while most of those who don’t own a home see a greater tax advantage from taking the standard deduction. If you aready have enough expenses to benefit from itemizing, any additional itemized deductions are gravy.

Taxpayers who pay little or no state income tax: taxpayers in states with a relatively high state income tax generally see more tax advantage from claiming the state income tax than the sales tax deduction (of course, taxpayers who live in states with no state income tax will get a larger deduction from the sales tax).

Taxpayers who purchased a qualifying “big ticket” item like a car: The additional sales tax deduction plus the amount from pub 600 may exceed their deductible income tax that year, even when the income tax is generally higher.

Taxpayers who shop a lot and keep all their receipts :-): I had a few clients who actually did so although they tended to get a larger deduction with the pub 600 amounts.

So what’s changed?

The new legislation allows taxpayers to claim qualifying sales tax on a new vehicle purchase without itemizing. For example Roger A. Vehicle is single, has no dependents, rents his home, and generally doesn’t have enough expenses to itemize. Of his $50,000 a year income, at 2009 rates and brackets, he would usually pay taxes of approximately $6,350. However, on February 18th, 2009 he purchases a new truck for $30,000 paying $2,325 in sales tax. On his 2009 return, he deducts $2,325 from his adjusted gross income, and without any other changes, lowers his taxes to approximately $5,769 – a savings of $581. Under the old rules, even with the purchase of a new vehicle, Roger wouldn’t have had enough expenses to itemize and wouldn’t have seen any tax benefit from his purchase.

Who does this benefit?

Taxpayers who don’t itemize: If Roger itemized, he could have taken the sales tax as an itemized deduction. However, if his income taxes paid were more than the pub 600 amount for the general sales tax deduction, he would effectively lose the difference (e.g. if he could deduct approximately $2,967 in sales tax with the new car ($642 from pub 600 plus $2,325 from the car), and $2,410 in income tax without it, the sales tax on the new car would only be reducing his tax by approximately $140, instead of $580)

Taxpayers who are in a higher tax bracket: Roger is in the 25% tax bracket, which means his taxes are reduced about 25% of the sales tax paid. If Roger were making $43,000, he would be in the 15% tax bracket and his tax savings would be approximately $349.

Taxpayers who purchase new cars: the legislation provides for a deduction on sales tax paid on new vehicles. Also, don’t run out and buy a Hummer yet - the deduction is limited to vehicle purchases of up to $49,500