Is auto insurance tax deductible for the self-employed?

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Important facts to know...

  • A self-employed person works for himself or herself and is not an employee of another person or organization
  • When you’re self-employed, you pay for your own expenses and can deduct these costs from your taxes
  • Auto insurance is tax-deductible for the self-employed
  • You can deduct the percentage of your auto insurance premiums that corresponds to your work-related driving
  • Not all vehicles qualify for tax deductions

A self-employed person works for himself or herself. They are not an employee of another person or organization. Rather than receiving a salary or hourly wage, their income comes directly from the customers or businesses with which they contract.

Self-employed people set their own hours and dictate the terms of their work.

Being self-employed comes with many benefits. Autonomy is a big one. People who work for themselves don’t have bosses setting their hours or telling them what they can and can’t do.

There’s also the potential to earn exactly what you’re worth. An employee earns a set salary determined by their employer. A self-employed person can charge whatever the market will bear for their labor.

But there are also some drawbacks. When you’re self-employed, you don’t have a guaranteed paycheck. If work dries up for a week or a month, you might not get paid. You also have to take care of your own health insurance and retirement funding.

Self-employed people also file their taxes differently. Since they pay their own expenses, they’re eligible for many more deductions.

One such deduction is the cost of car insurance. The following sections describe how you can deduct your insurance premiums from your taxes when you’re self-employed.

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Differences between Employee and Self-Employed Status

For tax purposes, it’s important to know if you’re classified as an employee or as self-employed. The easiest way to determine this is to look at your tax forms.

If you receive a W-2 from your employer, then you are an employee. If you work for a company, but they give you a Form 1099 at tax time and not a W-2, this means you’re an independent contractor, not an employee.

The IRS treats independent contractors as self-employed for tax purposes.

Your employee status has several implications when you file taxes. They are as follows:

Payroll Taxes

Payroll taxes are different from income taxes. Your payroll taxes are used to fund Social Security and Medicare, programs from which you benefit upon retirement.

The more you pay into these programs during your working years, the higher your Social Security checks when you’re older.

As of 2016, payroll taxes amount to 15.3 percent of your income. But they’re capped at $118,500. Any income you earn above this amount is not subject to payroll taxes.

When you’re an employee, you only have to pay half of your payroll taxes or 7.65 percent. Your employer covers the other half. But when you’re self-employed, you’re responsible for the entire 15.3 percent.

You can, however, deduct half your payroll tax expenses when filing your federal income taxes.

Expenses

Employers take care of routine office expenses on behalf of their employees. If you’re an employee, chances are, your employer provides you with the following:

  • desk
  • phone
  • computer
  • pens and paper

When you’re self-employed, you have to pay for these things on your own. Consequently, the IRS allows you to deduct such expenses when you do your taxes.

Labor Laws

Labor laws also treat employees differently from the self-employed and independent contractors. For instance, the law mandates that your employer pay you time-and-a-half for hours worked in excess of 40 per week.

  • It establishes a minimum wage that you must be paid per hour.
  • It sets restrictions on how many hours teens can work.
  • It bans discrimination in hiring practices.

You have fewer protections when you’re self-employed. No minimum wage exists. So if you work for yourself in sales, you can go an entire week without a paycheck if you don’t sell anything that week.

But the law does protect you from being treated like an employee and not paid like one. Let’s say you work for a company as an independent contractor. The company can’t force you to work certain hours or abide by employee guidelines.

Deducting Your Auto Insurance Premiums

You can deduct your auto insurance premiums from your taxable income in many scenarios. If you’re self-employed or an independent contractor and you use your vehicle for work purposes, at least some of your insurance premiums are tax-deductible.

Even if you’re an employee, you might be able to deduct your insurance if you drive for work and your employer doesn’t reimburse you.

How These Deductions Work

When you file your taxes each year, you’re required to report all the income you make to the IRS. The amount you owe in taxes depends on your income. Different income tiers correspond with different tax rates.

The more money you make, not only do you pay more in taxes, but you pay a higher percentage of your income in taxes.

The good news is, you can deduct many things from your total income to arrive at your taxable income. So, for instance, if you make $100,000 in a year, that doesn’t mean you have to pay taxes on the entire amount.

After deductions, you might end up only paying taxes on, say, $80,000.

Auto insurance is one such deduction. If you drive for work and don’t otherwise get reimbursed, you can deduct your insurance premiums from your total income but you can only deduct a certain percentage of your insurance expense.

This percentage corresponds to the percentage of total miles driven that are work-related.

Real-World Example

Let’s pretend you own a mobile notary business. You travel to customers’ homes and places of business to notarize important documents for mortgages, business transactions, and so forth. You only have one vehicle, which you drive both for work and for personal use.

In a given tax year, you put 30,000 total miles on your car. Of these miles, 15,000 were work-related, and the other 15,000 were from personal driving.

Since 50 percent of your driving was for work, the IRS, then, allows you to deduct 50 percent of your car expenses, including auto insurance.

In this situation, you can deduct the following:

  • half your repair bills
  • half your gas
  • half your oil change costs
  • half your registration fee
  • half your insurance premiums

Suppose you have full coverage auto insurance with premiums that total $150 per month. That’s $1,800 per year. You can claim a car insurance expense deduction of $900 on your taxes.

Employees Who Get Reimbursed

If you’re an employee and your company reimburses you for part of your work-related travel expenses, you have to subtract what your employer pays from the deduction you claim.

Consider the above scenario again. What if, rather than owning a mobile notary business, you worked as a mobile notary for a company?

You drove the same number of miles and paid the same for auto insurance. But at the end of the year, your employer gave you a $500 travel reimbursement.

In this scenario, you’d have to deduct the $500 your employer gave you from the $900 deduction you calculated. You would still be able to claim the remaining $400 as a deduction.

Standard Deduction vs. Itemized Deduction

If you’re not inclined to keep up with all your receipts that relate to your car expenses, you have an easier option. You can take the standard per-mile deduction for vehicle expenses. For the tax year 2016, this amount was 53.5 cents per mile.

The standard deduction is determined by a yearly study that estimates the total costs of owning and driving a vehicle for work, including paying for car insurance.

When you elect the standard deduction, you cannot deduct anything else related to your vehicle.

Let’s return to the above scenario. You’re a mobile notary who drove 15,000 miles for work. If the year was 2016 and you took the standard deduction, you could deduct $8,025 in car expenses.

The other option is to itemize your vehicle deduction. This option requires that you keep up with your receipts. You don’t have to submit them with your taxes. But if you ever get audited and can’t produce them, the IRS will probably revoke this deduction and send you a bill.

The IRS allows you to calculate both ways and go with the method that gives you the largest deduction. You should take advantage of this option. Sometimes the difference between the standard and itemized deduction is small, yet other times it’s substantial.

Which miles are deductible?

When you calculate the miles you drive for work, the IRS requires you to exclude your first and last ride of the day. Returning once again to the mobile notary example, suppose you visit six clients in a workday.

Your morning drive from home to your first client’s house, as well as your evening drive from your last client’s house back home, do not count as work-related miles.

This sounds like a nebulous distinction. But the IRS considers these miles your “commute” and does not allow you to deduct them.

Not All Vehicles Qualify

The IRS only lets you deduct miles driven in four-wheeled vehicles designed for public road use. If you drive, for instance, a motorcycle or scooter for work, you cannot deduct any portion of your insurance costs from your taxes.

Other exclusions include moving vans and vehicles that weigh over 6,000 pounds. If you have any questions about whether your vehicle qualifies, you should read the tax code carefully before claiming a deduction.

Comparison Shopping for Auto Insurance

There are so many car insurance companies and policies available that you owe it to yourself to compare several quotes.

A good rule of thumb is to look at three or four options before making a decision.

This gives you a good frame of reference on which policy offers the best deal. You can make your decision with confidence and not worry about having left a better deal on the table.

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