For consumers who purchase cars using an auto loan, the finance charges are a significant expense of operating the vehicle. If you borrow $20,000 for a car loan at 7.5 percent for six years, you would pay almost $5,000 in interest over the term of the loan. Interest on personal car loans is not tax deductible, making the expenses seem even higher.
Background
At one time, interest on car loans was tax deductible, as was most other consumer-loan interest, including credit cards. The Tax Reform Act of 1986 changed this, eliminating all consumer-interest tax deductions other than home-mortgage interest. Consumer-loan interest has not been deductible since then. This provides an incentive for people to reduce their consumer debt because there are no tax benefits in carrying consumer debt.
Business Use
If you use a vehicle for a business, you can deduct the business portion of the loan interest on the vehicle. You must use the actual-expense method to calculate your business-interest deductions. If you use the vehicle exclusively for business, the entire amount of interest paid is deductible. If you only use the vehicle part time for business, you must keep track of the miles driven during the year to calculate the deductible percentage of your vehicle expenses.
Alternatives
Interest on a second mortgage or home-equity loan of up to $100,000 may be deducted from your income tax, regardless of what you use the borrowed money for. You can borrow money against a home-equity line of credit to purchase a car, and deduct the interest paid on the home-equity line on your income taxes, thereby deducting the interest on your car loan.
Considerations
Deductible interest is helpful, but it may not add up to a substantial amount of money. If you paid $5,000 in deductible interest using a home-equity loan used to purchase a car, you can deduct the interest from your taxable income in the year that you paid it. If you were in the 15 percent tax bracket, you would save $750 in taxes over six years, or only $125 per year.
Tags: consumer debt, from your, home-equity line, home-equity loan, interest paid