[ ] DEDUCTIBLE MOTOR VEHICLE EXPENSES

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1 Premium Master Tax Guide 1 [ ] DEDUCTIBLE MOTOR VEHICLE EXPENSES Motor vehicle expenses incurred in the course of deriving assessable income or in carrying on business are allowable deductions (ITAA97 s 8-1). Such expenses include petrol, oil, repairs, servicing, new tyres, lease charges, interest on a car loan and car washes and polishes. The cost of a driver's licence is not an allowable deduction (Case R49 84 ATC 387), even if the holding of the licence is a condition of employment, but any premium on top of the cost of a standard licence would be allowable (Taxation Determination TD 93/108). Bridge or road tolls, car registration, third party insurance, insurance excess (ID 2004/393), comprehensive insurance and annual fees for membership in motorists' associations also form part of deductible motor vehicle expenses (but parking fines are not deductible). The calculation of car expense deductions where a car is jointly owned, jointly leased or jointly hired under a hire purchase agreement is discussed in Practice Statement PS LA 1999/2. For the assessability of car allowances and reimbursements of car expenses, see Taxpayers who choose to use their own private car for work purposes, even though they could have free use of a company vehicle, are still entitled to claim a deduction for the costs of business travel in the car (Case V ATC 714). An elected district officer of a friendly society was denied a deduction for car expenses claimed against a non-assessable honorarium she received from the society to defray her expenses, since there was no connection between the car expenses and the earning of assessable income (Case Z16 92 ATC 183). Most car expenses incurred by an employee or a self-employed person must generally comply with special substantiation rules in order to be deductible. These rules are explained at Car parking expenses Generally, a deduction is allowable for parking fees incurred while travelling in circumstances where the travel expenses are deductible ( ) (Taxation Ruling TR 98/14). However, deductions are not allowable for parking fees incurred by an employee where the car is used to commute from home to work and is parked at or near the employee's main workplace for more than four hours during the day between the hours of 7 am and 7 pm (ITAA36 s 51AGA; eg ID 2005/246). A deduction for car parking expenses is not denied if the employee is the driver of, or a passenger in, the car and is entitled under state or territory law to use a disabled person's parking space and a valid disabled person's car parking permit is displayed on the car (ITR36 reg 12). Depreciation A deduction may be available for depreciation of a vehicle owned by the taxpayer ( , ). The Commissioner considers that depreciation may also be claimed on radios, air conditioners, etc, attached to a vehicle at the time of purchase. Car phones qualify for depreciation whether installed before or after delivery. Special rules apply if the vehicle is being acquired under a hire purchase agreement ( ). Leasing charges The ATO cautions that rentals under car and truck leases are deductible as rent only to the extent that they meet the usual requirements of revenue outgoings under the general deduction provisions, so that any part of the rentals that represents private use or partial payment towards the ultimate purchase is not deductible (see generally Taxation Ruling IT 28). This is also the case for any other plant, machinery or equipment leasing arrangements. No deduction is allowed to an employee for lease payments made by an employer to a finance company in a partial novation under a motor vehicle lease novation arrangement (Taxation Ruling TR 1999/15; Jones 2005 ATC 2236). In a full novation, the employer is entitled to a deduction for lease expenses where the vehicle is used in the business or provided as part of a salary package (there are no income tax consequences for the employee). In the case of a luxury car, the deduction is based on an accrual amount and depreciation, subject to the car depreciation limit ( , ). Entitlement to private use If an employer provides a car for the exclusive use of an employee or the employee's relatives in circumstances where the employee or relatives are entitled to use the car for private purposes, expenses incurred in

2 Premium Master Tax Guide 2 connection with the car by the employee are not deductible (ITAA36 s 51AF). The section applies to both the provision of a leased vehicle (the lease terms of which are paid for by the employee) and the provision of a vehicle at will by the employer for use in specified duties (Pierce 98 ATC 2240). However, it does not apply where, under a partial novation entered into after 17 June 1998, the lease payments are incurred by the employer, rather than by the employee (Taxation Ruling TR 1999/15; Jones 2005 ATC 2236). The AAT has held that expenses such as parking fees and bridge tolls that are linked to a car but are not involved in its direct operation, and are not otherwise factored into an FBT valuation, are not caught by s 51AF and thus are deductible (Case Y43 91 ATC 412; see also ID 2004/613). Note that parking fees may be disallowed where s 51AGA applies see above. [FTR , ] [ ] SUBSTANTIATION RULES FOR CAR EXPENSES Special substantiation rules apply to claims for car expenses incurred in relation to travel within Australia (ITAA97 Div 28: s 28-1 to ). These rules apply to employees as well as to other recipients of withholding payments ( ), self-employed persons and partnerships including at least one individual taxpayer, but not to companies or trusts. The rules do not apply unless the taxpayer owns or hires under a hire purchase agreement or leases the car. A taxpayer who does not own the car cannot use the special methods but can claim deductions for fuel, oil and other actual costs. See for the types of vehicle to which the rules apply. The substantiation rules for car expenses calculated under the log book method or the one-third of actual expenses method (see below) are set out in ITAA97 Subdiv 900-C (s ; ). There are several methods of claiming car expenses deductions that can satisfy the substantiation rules. Where the rules are not met, no deduction is allowable for the expenses. Unlike employees' work expenses, which are subject to a $300 threshold, there is no substantiation-free threshold for car expenses. If a taxpayer wishes to claim car expenses by reference to actual expenses apportioned between income-producing use and private use of the car, the expenses must be substantiated under ``the log book method''. Under this method, claims must be supported by written evidence, log book records and odometer records. Example A taxpayer's total car expenses, including depreciation, for the income year amount to $9,000 and the business proportion of these expenses is 70%. Where the requirements of the log book method are satisfied, the taxpayer's deduction for car expenses would be calculated as 70% $9,000 = $6,300. Taxpayers can get full or partial exemption from the substantiation rules by electing to make their claim on an arbitrary basis, ie using a method of deduction which is not directly related to the actual expenditure on business usage. The arbitrary methods are the ``one-third of actual expenses method'', the ``12% of original value method'' and the ``cents per kilometre method''. The one-third of actual car expenses method and the 12% of original value method can only be used where the taxpayer travels more than 5,000 km on business during the income year. The cents per kilometre method can only be used where the business use is 5,000 km or less or, if the car travelled more than 5,000 km on business, the claim is limited to the first 5,000 km. The log book method can be used regardless of the business kilometres travelled. The various methods that can be used are shown below. For guidance as to which method will provide the greatest deduction in particular circumstances, see Method Extent of substantiation required Log book method Log books required to be kept for at least 12 weeks in the first year and then every five years ( ). Odometer records required ( ). Written evidence of expenses (receipts, etc) required

3 Premium Master Tax Guide 3 ( ). Fuel and oil expenses may be substantiated by odometer records ( , ). One-third of actual car expenses method (if business use exceeds 5,000 km) Written evidence of expenses required ( ). Log book records not required. Fuel and oil expenses may be substantiated by documentary evidence or by odometer records ( ). 12% of original value method (if business use exceeds 5,000 km) Cents per kilometre method (if business use is 5,000 km or less or claim limited to 5,000 km) No substantiation required ( ). Number of business kilometres based on reasonable estimate. Substantiation records not relevant. Number of business kilometres based on reasonable estimate ( ). The options available where a car travels more than 5,000 business kilometres are also available where a taxpayer first starts or ceases to use the car part-way through the year and the business usage would have exceeded 5,000 km if the car had been used for the whole year. Taxpayers are not required to lodge their supporting records with their returns. However, they must produce them if required to do so by the Commissioner (ITAA97 s ; to ). Records must be kept for five years after the relevant return is lodged or until the relevant dispute is settled (s ; ). Where the log book method is used, the retention period applies from the date of lodgment of the last return in which a claim is based on those records. The Commissioner has a limited discretion to disregard a failure to comply with the retention requirements applying in respect of log books and odometer records. The substantiation rules will not apply where the nature and quality of the evidence the taxpayer has to substantiate the expenses (under either the log book or the one-third of actual expenses method) satisfies the Commissioner that the taxpayer: (a) incurred the expense; and (b) is entitled to deduct the amount claimed (ITAA97 s ; ). For the rules applicable where records are lost or destroyed, see For situations in which car expenses need not be calculated using one of the four methods, see [FITR ff, , , ] [ ] WHAT MOTOR VEHICLES ARE COVERED? The car expense substantiation rules apply to any motor-powered road vehicle (including four-wheel drive vehicles) designed to carry a load of less than one tonne and fewer than nine passengers (thus including station wagons, panel vans and utility trucks designed to carry less than one tonne). They do not apply to motor cycles or similar vehicles or taxis. Hired motor vehicles are only subject to the rules if hired on a regular basis (ITAA97 s 28-12; ; 995-1(1)). Exceptions Even if a vehicle falls into one of the above categories, none of the four methods for calculating car expenses ( ) is required to be used in specified circumstances. In these cases, one of the four methods may be used or, instead, ordinary principles (eg under the general deduction provisions or the depreciation provisions) may be applied to determine deductibility, including how expenses incurred for partly income-producing purposes are to be apportioned (ITAA97 s ; ). The exception applies where the car is a panel van, utility truck, taxi or any road vehicle designed to carry less than one tonne (excluding any vehicle designed principally to carry passengers) which is used only in one or more of the following ways:

4 Premium Master Tax Guide 4 for travel undertaken in the course of, or which is incidental to, producing the taxpayer's assessable income for travel between the taxpayer's residence and the place where the car is used in the course of producing the taxpayer's assessable income for travel by some other person who was given the car to travel between his/her residence and where the car is used in the course of producing the taxpayer's assessable income, or for private travel, by the taxpayer or some other person, that was minor, infrequent and irregular. If any of the following circumstances applicable to all types of cars are satisfied, the exception will apply: the car is provided for the exclusive use of employees or their relatives and any of them was entitled to use it for private purposes the car is hired or leased in the course of carrying on a business of hiring or leasing cars the car is part of the trading stock of a business of selling cars and is used in the course of that business the car is unregistered and used principally in producing assessable income the car is trading stock of the taxpayer's business of selling cars and is not used by the taxpayer at any time during the year, or the expense is related to repairs or other work on the car and is incurred in a business of doing repairs or other work on cars. [FITR , ] [ ] WHAT CAR EXPENSES ARE AFFECTED? Car expenses affected by the substantiation rules are any losses or outgoings to do with a car, or to do with operating a car (eg fuel, oil, servicing and interest: ID 2004/241, ID 2004/242) and depreciation (ITAA97 s 28-13). In the case of depreciation, the substantiation rules are relevant to establishing the cost of the vehicle. Car expenses do not include taxi fares or similar losses or outgoings, or expenses on travel outside Australia these may be subject to the substantiation rules relating to work expenses ( ) or to business travel expenses ( ). Intermittent hire car expenses are excluded from the car expenses substantiation rules. However, if they relate to travel outside Australia, they may be treated as work expenses ( ) or business travel expenses ( ). Expenses incurred in hiring cars on a long- term basis are subject to the car expenses substantiation rules (ITAA97 s ). If car expenses related to award transport payments are deducted without written evidence and without using one of the four methods for calculating car expenses ( ), the 12% of original value and the one-third of actual expenses methods cannot be used to calculate other car expenses incurred during the year (ITAA97 s ; ). Either the cents per kilometre or the log book methods may be used, provided that, under either method, the kilometres relating to the award transport payments are not counted as business kilometres and, in the case of the log book method, the log book requirements are satisfied in relation to all car expenses (including the expenses relating to the award payments). [FITR , , ] [ ] WRITTEN EVIDENCE Where a taxpayer claims car expenses using the log book method or the one-third of actual car expenses method ( ), the expenses must be verified by written evidence such as a document from the supplier of the goods or services (ITAA97 Div 900: s to ). While generally there is no time limit for getting written evidence of an expense, the taxpayer is not entitled to a deduction until he/she has obtained the written

5 Premium Master Tax Guide 5 evidence. However, the deduction may be claimed, even in the absence of the written evidence, if the taxpayer has good reason to expect to obtain the evidence within a reasonable time. If the written evidence is obtained after the end of the income year, the expense is deducted in that income year, not in the year in which the written evidence is obtained (s ). The supplier's document (eg a receipt, invoice, certificate or statement) must set out the name of the supplier, the amount of the expense, the nature of the goods or services supplied, the date the expense was incurred and the date of the document. This is subject to two exceptions: (a) if the supplier's document does not show the day the expense was incurred, the taxpayer may use other independent evidence such as a bank statement to show when the expense was paid; and (b) if the supplier's document does not specify the nature of the goods or services (eg a credit card receipt), the taxpayer may add that information to the document before lodging the income tax return (s ). The Commissioner will accept a document containing the necessary information, whether issued by the supplier or a third party (eg a bank statement evidencing a BPAY or internet banking transaction). Such record is not required to show when the document was produced, provided the date of the payment is shown. Electronic records and electronic copies of records are also acceptable (Practice Statement PS LA 2005/7). Depreciation In relation to claims for depreciation, the supplier's document must record the name of the supplier, the cost of the property to the taxpayer, the nature of the property, the date on which the property was acquired by the taxpayer, and the date on which the document was made out (s ). If the supplier's document does not specify the nature of the property, the taxpayer may write in the missing details. If the taxpayer does not get the supplier's document in time, eg because he/she only decided to use the property for income-producing purposes several years after acquiring it, the deduction may still be available (see below under ``Special situations''). Fuel and oil expenses Where a claim in respect of oil and fuel is made by a taxpayer using the one-third of actual expenses method, the taxpayer has a choice. The claim can be substantiated by either obtaining written evidence or by maintaining odometer records (s (2)). Where odometer records are relied on, the Commissioner accepts a reasonable estimate of fuel and oil costs based on business kilometres travelled, average fuel and oil costs, and average fuel and oil consumption (Taxation Determination TD 97/19). A taxpayer using the log book method is not required to obtain written evidence of fuel and oil expenses (as odometer records are already required to be kept under that method) (s (3)). Small claims The requirement to obtain written evidence does not apply where the taxpayer makes a claim for expenses which individually do not exceed $10 and which in total do not exceed $200 for the income year. Nor does it apply if it would be unreasonable to expect the taxpayer to obtain written evidence of the expense (even if the expense is more than $10 or the $200 limit is exceeded). In such cases, it will be sufficient for the taxpayer to record all the relevant details of the expense in a document (such as a diary) as soon as possible after incurring the expense (s ; ). The taxpayer's own document must contain all the information that would have been required to be contained in the supplier's document (diary entries simply showing where the taxpayer was on certain days without details of goods and services purchased would be insufficient). A series of cheque butts containing the required information (supplier's name, amount, nature of the goods or services, date) would seem sufficient to satisfy this requirement. In the case of depreciation, the taxpayer's document must record, as soon as possible after the end of the income year, the nature of the property, the amount of depreciation, the day the record is made and who made the record. Special situations Relief from the substantiation requirements may be granted by the Commissioner if the nature and quality of the evidence the taxpayer can produce satisfies the Commissioner that the taxpayer incurred the expense and is entitled to deduct the amount claimed (s ). A bona fide attempt to comply with the requirements is likely to prompt the exercise of the discretion, but unsupported estimates and the taxpayer's unsupported

6 Premium Master Tax Guide 6 statements will not. The discretion is unlikely to be exercised in the absence of supporting documentation or factual material evidencing the expense (Taxation Ruling TR 97/24; Snaidr 98 ATC 2048; Case 12/99 99 ATC 209), even where it is reasonable to assume that the taxpayer did incur some work-related expenses (Case 15/ ATC 234). In addition, the right to a deduction is not affected by the failure to follow the substantiation rules if the only reason for such failure was that the taxpayer had a genuine and reasonable expectation that he/she would not need to comply with those rules (s ). An example is the taxpayer's reasonable expectation, at the time the expense was incurred, that the expense would be in an exception category (eg the expectation that work expenses totalling less than $300 would be incurred during the year). While ignorance of the law, recklessness or carelessness will not attract the discretion, a reasonable expectation created by ATO advice or conduct may (Taxation Ruling TR 97/24). Where documents are lost or destroyed, the following rules apply (s ). Complete copies of documents are treated as the original document (however, the claim for deduction will fail if the original document would not have complied with the substantiation rules: Turner 99 ATC 2262). If no complete copy existed and the Commissioner is satisfied that the taxpayer took reasonable precautions to prevent the loss or destruction (ie there was no recklessness or carelessness), then: (a) the deduction is not affected if the lost or destroyed document was not written evidence, ie it was a log book, odometer records or a travel record; or (b) if the document was written evidence, substitute written evidence (eg a substitute receipt) will suffice. If it is not reasonably possible to obtain substitute written evidence (ie if a bona fide attempt to obtain a copy is made or it is reasonable to believe that such an attempt would be unsuccessful), the deduction is not affected by the loss or destruction of the document (Taxation Ruling TR 97/24). [FITR , , , , , ] [ ] LOG BOOK REQUIREMENTS In addition to written evidence ( ) to substantiate car expenses, taxpayers using the log book method must support their claim by appropriate log book records (ITAA97 s ; ) and odometer records (ITAA97 s ; ). For the first year in which car expenses are claimed using the log book method, a log book recording each business journey must be kept for a minimum continuous period of at least 12 weeks at any time in the year. The 12-week period may overlap the start of an income year. To use the log book method for two cars, the log book for each car must cover the same period. Odometer records must also be kept showing the odometer reading of the car at the beginning and end of the 12-week period ( ). The log book must include for each business trip: (a) the date the trip began and ended; (b) odometer readings at the start and end of the trip; (c) kilometres travelled on the journey; and (d) the purpose of the trip. The record must be made at the end of the trip or as soon as possible afterwards. Where two or more business journeys are made consecutively during the one day, only one log book entry for that day is required. In addition, the log book must contain the following information: (a) when the 12-week period began and ended; (b) odometer readings at the beginning and end of the period; (c) total number of kilometres travelled during the period; (d) total number of business kilometres travelled during the period on trips recorded in the log book; and (e) percentage of business kilometres to total kilometres. Once the extent of business use of the vehicle during the 12-week period has been established, the taxpayer can make a reasonable estimate of the number of business kilometres travelled during the income year. This estimate must take into account all relevant matters including the log book, odometer or other records, any variation in the pattern of use of the car (eg for holiday or seasonal factors) and any changes in the number of cars used for income-producing purposes during the year. The proportion of the estimated number of business kilometres to the total number of kilometres travelled while it was owned or leased during the income year is then applied to the substantiated car expenses to calculate the amount of deductible car expenses. Essentially, a new log book will not have to be kept until five years have passed, unless specific rules require a log book to be kept earlier. For example, if a log book was kept in 2000/01, a new log book will generally not be required to be kept until 2005/06. In the four years following the first year, the log book is relevant for determining the reasonable estimate of business kilometres travelled during the income year. Log books do not

7 Premium Master Tax Guide 7 have to be kept in those years, but the taxpayer must keep odometer records ( ) to establish total kilometres travelled in the car during each year, as well as record the estimate of business kilometres and the business use percentage for the year. Having kept the log book for one income year, the taxpayer is not required to keep one for the next four income years unless: the Commissioner sends the taxpayer a notice before the income year directing the taxpayer to keep a log book for that year, or during the income year, the taxpayer gets one or more additional cars for which the taxpayer wants to use the log book method in that year. A taxpayer may choose to keep a log book in an income year, even in the absence of a requirement to do so (eg to establish higher business usage). If the car is replaced with another, the taxpayer is treated as having continuously held the one car, even though there may be a period when the taxpayer held both cars or neither car, and the business use percentage established by the log book may be relied on for the replacement car. The taxpayer must nominate in writing the replacement car and specify the date from which the replacement is to take effect. The nomination document is subject to the same retention period as the log book for the original car. Where a car is held for less than 12 weeks, a log book must be kept for the entire period for which the taxpayer held the car. There is no discretion in the Commissioner to disregard a failure to comply with the log book or odometer requirements, other than the retention requirements. However, the Commissioner has a discretion to disregard a failure to comply with the substantiation rules that apply to written evidence. Special rules apply if a log book or odometer records are lost. See further [FITR ff, ff, ff] [ ] ODOMETER RECORDS The log book method of claiming car expenses ( ) requires odometer records to be kept in each year in which the method is used (ITAA97 s ; ). Entries containing odometer readings at the beginning and end of the relevant period (ie the period when the taxpayer held the car during the income year and, if a log book must be kept in the income year, the log book period) must be made at or as soon as possible after the start or end of the specified period. Odometer records must also contain details of the make, model, registration number and engine capacity of the car these entries must be made before lodging the income tax return. Where a car has been replaced ( ), the odometer records must contain the above details in respect of both the original and the replacement cars. [FITR ff] [ ] ARBITRARY METHODS OF DEDUCTION The substantiation requirements are modified if a taxpayer elects to adopt certain arbitrary methods of deduction for car expenses. To use one of these methods, the taxpayer must own or lease the car, or hire it under a hire purchase agreement. The modified requirements are as follows. Claims for 5,000 km or less If the car travelled 5,000 km or less during the year on business (or the claim is limited to 5,000 km), the taxpayer is not required to maintain substantiation documents if the taxpayer opts to claim a deduction using the cents per kilometre method in lieu of a deduction based on actual expenditure on business usage (ITAA97 s to 28-35). The option is available if the car travels more than 5,000 km, provided the deduction claim is limited to the first 5,000 km only (therefore, no deduction is available in respect of the business kilometres over 5,000). Where this option is exercised, the deduction is based on a reasonable estimate of business kilometres. The cents per kilometre rates vary according to the engine capacity of the vehicle. For the 2004/05 rates, see

8 Premium Master Tax Guide 8 Claims for more than 5,000 km If the car travelled more than 5,000 km during the year on business (or would have, if the taxpayer had had the car throughout the whole year), the taxpayer may: claim a deduction of one-third of actual car expenses (including business and private expenses) (ITAA97 s to 28-80). This requires that written evidence of expenses ( ) be kept, but not log book records. Special treatment applies to fuel and oil expenses these can be substantiated by written evidence or by odometer records, or claim a deduction equal to 12% of the original value of the vehicle (ie cost or, in the case of a leased vehicle, 12% of the market value when the taxpayer commenced to lease it) (ITAA97 s to 28-60). If this option is exercised, the taxpayer is not obliged to maintain written evidence, log book or odometer records. The value on which the deduction is based will be subject to the car depreciation limit ( ). If the car was not owned or leased for the whole income year, the deduction is reduced to reflect the number of days when the taxpayer did not own or lease it. The taxpayer may use a different method in respect of different cars in the same year, or in respect of the same car in different years. Special rules apply for the purposes of calculating depreciation balancing adjustments on the loss or disposal of the car where the above methods have been used ( ). [FITR ff, ff, ff, ff] [ ] CHANGING FROM ONE METHOD TO ANOTHER A different method of substantiation can be used for each car held by the taxpayer for income-producing purposes. The taxpayer can also switch from one method of deduction to another year by year (ITAA97 s 28-20). While a taxpayer can only use one method for all car expenses for one car in a particular income year, that choice may be changed (eg if during the Commissioner's audit, the taxpayer decides to adopt a different method). Often a taxpayer will not know in advance which method will provide the greatest deduction. If a taxpayer's income-producing mileage is high by comparison with the private mileage, the taxpayer would probably be better off using the log book method. On the other hand, if the taxpayer travels more than 5,000 business kilometres during the year, but the business mileage is low when compared with the private mileage, the taxpayer may be better off, at least in that year, using the 12% of original value or one-third of actual expenses method. In considering the appropriateness of the cents per kilometre method, particularly where more than 5,000 business kilometres are travelled, the size of the deduction must be balanced against the reduced record-keeping requirements. For useful case studies about the above rules, see CCH Master Tax Examples and Example The taxpayer leases a motor car during the income year, travels 30,000 km in the car during the year, and incurs the following expenses: $ Insurance (comprehensive) Lease payments... 3,500 Petrol and oil... 3,000 Registration and third party insurance Repairs Total... $8,770

9 Premium Master Tax Guide 9 The following table shows what method gives the best result in various situations. The table assumes that the market value of the car at the time it is taken on lease is $24,000. Method of deduction Deduction if 22,000 km are for income-producing purposes ($) Deduction if 8,000 km are for income-producing purposes ($) Log book 6,431 2,339 12% of market value 2,880 2,880 1 /3 of total car expenses 2,923 2,923 Cents per km (2004/05 rate for 1,601-2,600cc, ie 62 cents/km: ) 3,100 3,100 [FITR , ]

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