Tax-Free Cash Vouchers for Trading in Gas-Guzzling Vehicles; Thomson Reuters Tax Analyst Explains how to get “Cash for Clunkers”

New York, NY - A new law that passes Obama’s desk for signature this week is the Supplemental Appropriations Act of 2009, which includes “the Consumer Assistance to Recycle and Save Act,” known as “cash for clunkers.” Says Bob Trinz, Senior Tax Analyst from the Tax & Accounting business of Thomson Reuters,“ The government is giving a tax-free cash incentive for individuals and businesses to trade in older gas-hogging vehicles for new, more fuel-efficient ones.”

Specifically, the incentive takes the form of a voucher of $3,500 or $4,500 depending on the type of vehicle traded in and the fuel efficiency of the new vehicle, which would have to be purchased between July 1 and November 1 of 2009. According to Trinz, part of the deal is a one-year ownership rule that prevents someone from buying an old clunker now and making money on a trade-in. And the $3,500 or $4,500 vouchers are not to be treated as gross income for purposes of the Code, or for federal or state assistance programs.

“There are official definitions of how each vehicle is designated,” says Trinz. “Those definitions vary according to mileage, weight, and model year.” Additionally, a new ’fuel efficient auto’ can take the form of a passenger auto, or truck in one of three categories, and must meet these requirements:

* the equitable or legal title has not been transferred to any person other than the ultimate purchaser;
* the vehicle carries a manufacturer’s suggested retail price of $45,000 or less;
* certain certification standards are met; and
* the vehicle has a Combined Fuel Economy (CFE) of at least (1) 22 mpg for a passenger auto; (2) 18 mpg for a category 1 truck; or (3) 15 mpg for a category 2 truck.

Says Trinz, “The qualifying replacement vehicle must be new, but a ’demonstrator’ vehicle never titled may qualify even if it had substantial mileage. If it’s been titled, all bets are off.”

Trade-in vehicles eligible for the voucher program are those which, at trade-in time, are in drivable condition; have been continuously insured and registered to the same owner for at least one year; were manufactured less than 25 years before the trade-in date; and in the case of an auto, achieve a CFE of 18 mpg or less. A single person may get only one trade-in voucher and only one voucher is available for joint registered owners of a single eligible trade-in vehicle.

“Autos can’t have a CFE of more than 18 mpg, and the new one must have at least a CFE of 22 mpg and exceed the old one’s CFE by at least (a) 4 mpg (for a $3,500 voucher) or (2) 10 mpg (for a $4,500 voucher),” says Trinz.

How does this translate to your income tax?

According to Trinz, the vouchers are not treated as gross income of the vehicle purchaser for Federal tax purposes. If the voucher payment were allowed in addition to a trade-in allowance, the tax-free feature could easily be measured. For example, a $3,500 tax-free payment would be worth $875 more than a $3,500 taxable payment to a taxpayer in the 25% marginal tax bracket. But because the voucher precludes a trade-in allowance and is really only valuable to the extent it exceeds such an allowance, the value of the tax-free feature is hard to measure given that a non-business car owner who trades in a vehicle generally has no gain or loss on the trade in. Thus, if a trade-in on a car originally purchased for $20,000 would yield $500 and the voucher amount is $3,500, in most cases, the extra $3,000 will be worth $3,000 after taxes both to an individual whose income is too low to pay taxes and to a high-earner who pays substantial taxes.

Since the voucher is not treated as gross income, a business that utilizes the program is treated as if it traded in the old vehicle and received zero for it. Its basis in the new vehicle would be the amount it pays net of the voucher and any other rebates. If the purchaser is a business that has depreciated the old vehicle down to zero (or it has a very low basis), trading it in via a regular transaction generally would not result in recapture. ( Code Sec. 1245(b)(4) ) The basis of the new vehicle would equal the amount paid for it.

For businesses, it is more advantageous to trade in a qualifying vehicle with a low or zero basis rather than selling it for an amount equal to or less than the voucher’s value. “It may even pay to forego a higher sale price and trade in the old vehicle and get a tax-free voucher. For example, if a business paying tax at an effective tax rate of 30% sells a zero-basis truck for $6,000, it would have $4,200 left after paying a $1,800 tax. If the business trades in the old truck and qualifies for a tax-free $4,500 voucher under the new program, it would be $300 ahead,” says Trinz.

Trinz also advise buyers that they can possibly claim an income tax deduction for qualified motor vehicle taxes paid on the vehicle, whether they itemize or claim standard deduction. They may be able to claim a credit for vehicles that qualify for the hybrid credit or qualify for “the advanced lean burn technology motor vehicle credit.” Since the credits vary with the type of vehicle, taxpayers will need to contact their tax professional to learn what advantages your own car could bring in terms of tax rewards. “Obviously, the government, with bipartisan support, wants to make this the best possible time for car shopping. It can be win-win - for consumers and car manufacturers,” says Trinz.

Will your car qualify?

Contact Lande Communications to set up an interview with Bob Trinz.