by John Stockman, Wag’n Tails Mobile Conversions
After the celebration, though, reality will eventually set in. It always does. That “I paid off my van” euphoria can quickly changes to “HOLY COW!” right around April 15th. Does that date ring a bell? Yep. TAX TIME!
With over 1,800 grooming vehicles out there, Wag’n Tails customers all too often tell us about the tax surprise they run into when they pay off their van. We try to warn everyone a couple of times per year or more but it still is a shock to pretty much all of them.
Once that monthly van payment goes away, you get a big, fat raise. Wooohoooo!
$1,000 to $1500 or more per month feels great and sure looks nice in the bank account! You know who else likes the way it looks in your bank account?
The Internal Revenue Service. They really, really like it. Heck, I’ll even venture to say they love it! Here’s why.
First, the interest paid in each payment on the loan is an expense that was used to reduce the taxable income of your business.. The interest deduction goes away, which makes your taxable income correspondingly rise and you get to pay more taxes because of the increase in your taxable income.
But wait! There’s more!
Now for the biggie. The mother of all tax deductions that disappears. The one that will really hit you the hardest. The Big Kahuna: Depreciation.
Depreciation is simply a tax benefit that allows a business owner to reduce taxable income over a period of time by deducting a portion of the cost of an asset. The concept is that an asset (a van or trailer) has a useful life and that over time some of that life is used up so businesses are allowed to “write off” a portion of the cost of the asset.
That means you get to deduct some or all of the cost of the van each year. The higher the cost of the vehicle, the higher the depreciation allowance you are allowed to take.
Add up the lost interest and depreciation deductions and that can increase your taxable income by $18,000 or more. For example, if you had taxable income of $40,000 before you paid your van off, your tax would be about $6,000 (according to the 2012 IRS tax table). After you pay off your van, your taxable income is now $58,000 (or even more); your tax is almost $11,000. Not many of us have an extra $5,000 laying around to send to Uncle Sam.
The point is, if you have paid off your van or if you are about to pay it off, be very aware of the trap that comes April 15th. It can be a real shocker and can really punish your bank account.
There are ways to avoid the shock to your business. First and foremost, plan. Talk to your accountant. Be aware of what the future holds. Take some of that money that would go to your van payment and sock it away for tax time. Don’t get caught in the “HOLY COW!” moment. If you know what’s coming, you can prepare for it and meet it head on.
Of course there is another alternative. Trade in the old van, or sell it yourself and get another one. You’ll still have a van payment but you’ll also have the deductions and tax savings that come with it and maybe the best thing…you’ll have a new van.
Currently, the IRS has a special depreciation rule in effect known as Section 179. Using the IRS Section 179 deduction, if you purchased a new or used van or trailer, you can deduct up to 100% of the cost of the van the first year. For example, if you bought a $79,000 vehicle, you can save as much as $27,650 (depending on your tax bracket) the first year. That’s like getting over 2 years of van payments saved in taxes during year one!
Paying off your van is a significant accomplishment and it should be a source of pride and jubilation. Just be sure you have both eyes wide open to the tax implications that you will face once you have it paid for. ♦
DISCLAIMER: John Stockman and Wag’n Tails Mobile Conversions are not tax professionals. This information is provided as an example and is typical of the situation discussed and is believed to be accurate. Always consult a tax professional before undertaking any business decision of this nature. Each individual situation is unique and results will therefore be different than those described above.