Paying Interest on Car Loans? Business Owners Get a Tax Break

Keeping track of business expenses can be difficult, especially when it comes to deciphering what counts as an expense. The interest you pay on certain loans might be tax-deductible. Is car loan interest tax deductible?

The interest you pay on student loans and mortgage loans is tax-deductible. Reporting the interest from these loans as a tax deduction is fairly straightforward. In contrast, reporting the interest on a car loan can be harder.

Payments towards car loan interest don't count as a deduction unless the car being used is for business purposes. If you have your own business or are self-employed and the car is used for your business, only a portion of the car loan interest can be written off.

In order to claim car loan interest as a deduction, the car owner must prove that the car is being used for business. There are two ways to legitimize a car as a business expense:

• the actual expenses method
• the standard mileage rate method

The actual expense method is usually what business owners go with when it comes to deducting car expenses. It works by deducting all of the eligible expenses that involve using your business vehicle. These expenses include car loan interest, license and registration fees, gas and oil, tolls, insurance payments, repairs, depreciation, and all of the other vehicle operating costs. However, you can only write off a portion of these expenses, and it correlates to the amount you use the vehicle for business purposes.

If a self-employed person uses their car for business 40 percent of the time and personal use 60 percent of the time, then the person can only deduct 40 percent of the loan interest and other vehicle expenses. This method works great for freelancers and DBAs (Doing Business As), where it can often result in higher deductions than the standard mileage rate method.

Neither of the methods applies when driving the car from your home to a business-related location or if you’re driving a company vehicle that’s owned by your employer.

Because there are so many expenses to keep track of with this method, it’s crucial to document all of the eligible expenses associated with the business vehicle. Keeping these filings accurate and organized will make filing taxes easier. The documents will be useful if the IRS questions the deductions or requires an audit of your tax return.

The standard mileage rate method is somewhat easier to manage if you want to claim vehicle loan interest as a deduction. This method prioritizes keeping a record of your business mileage. There's a standard mileage rate that the IRS set for 2021, which was $0.56 per business mile.

If you drove 1,000 miles in 2021 strictly for business, the tax deduction would equal $560. Unlike the actual expenses method, you can't designate other vehicle expenses as a write-off. The few exceptions include parking fees, DMV fees, and car loan interest payments. This method can be beneficial for those who drive their car heavily for business purposes. Rideshare and truck drivers would benefit the most from this method.