Annual Lease Value Calculation (Auto Add-back)
As a business owner, payroll probably represents one of the largest, if not the largest, expense on your profit and loss statement. It is also one of the “high profile” categories that the IRS looks at during an audit.
You might think payroll is pretty straightforward – wages are what I pay my employees and I can substantiate them with my payroll reports and W-2’s. If you can make this claim, then I salute you. You can count yourself among those who keep good records. There are still many though whose accumulation of income and expenses are not kept as they need to be. But even those who are on top of their game should ask themselves this question: am I reporting ALL the wages earned by my employees on their W-2’s? You might be surprised to find out that you may not be reporting all the wages earned by your employees.
The IRS has a category of wages called “non-cash employee fringe benefits.” What in the world, you might ask, would be in this description? Among the multiple items that fall into this category, one is the personal use of business automobiles.
If there are automobiles in the assets of the business that are provided to employees for their use in performing their job responsibilities, the company must “charge back” to the employee the miles (or percentage of mileage) used personally as non-cash wages. This includes commuting miles between their home to the office and back to their home. If they leave the office during the day on business, those miles represent a business expense.
A calculation is used to change the personal miles incurred during the year into an amount that becomes employees’ wages and become taxable for federal income, social security, & medicare taxes. The calculation of the wage add-back is accomplished by using the “Annual Lease Value” method explained in IRS Publication 15B, Employer’s Tax Guide to Fringe Benefits.
This publication explains the use the Annual Lease Value Table and establishes the value of the non-cash use of the automobile.
ABC Co., Inc. is an insurance company. It owns two vehicles, a 2011 Ford Fusion used by Ray Brown, the top salesman and a 2011 Lincoln MKS used by Jim Lynch, the business owner. Each one has possession of the vehicle 100% of the day so there is a mixture of business and personal usage. Both Ray and Jim keep record of their business miles. Based on this information, the calculation of their auto fringe add-backs would be as follows:
- 2011 Ford Fusion has a book value of $27,200; the 2011 Lincoln MKS has a book value of $55,100.
- Using the Annual Lease Table in Publication 15B, the annual value for the Fusion is $7,250 and for the MKS $14,250.
- Ray’s total mileage for 2011 is 22,712. His business miles are 13,624. This means his personal use of the automobile represents 40% (22,712 – 13,624 = 9,088). Using this rate, the wage add-back is $2,900 ($7,250 x .40%) + $499.84 (0.55 cents per personal mile) or $3,399.84.
- Jim’s total mileage for 2011 is 40,173. His business miles are 15,964. Using the above method, his personal use of the automobile represents 60% (40,173 – 15,964 = 24,209). His wage addback is $8,550 ($14,250 x .60%) + $1,111.50 (0.55 center per personal mile) or $9,661.50.
The importance of re-classifying these amounts from auto expense to wages allows the business to deduct 100% of the auto expenses. In an IRS audit situation, if this re-classification is not done, the IRS CAN and WILL eliminate the personal use amount from the expenses which will change the yearly profit. In the case of a C corporation, this will mean an increase in the income or decrease of the loss resulting in an amended return. For an S corporation or partnership, the same applies, but since the income is passed through to the shareholder or partner, not only does the corporate/partnership return need amended, but the individual returns as well.