A car allowance is the simplest way to offset an employee’s cost of operating a personal vehicle for business use. Many organizations pay the allowance every pay period as taxable compensation, rather than track business mileage to keep the allowance tax-free. Other organizations neglect to withhold taxes, leaving them vulnerable to an IRS audit.

No one wants to pay unnecessary taxes. And no one wants to run afoul of the IRS. Your company’s car allowance plan can avoid both of these pitfalls. It starts with properly understanding the difference between accountable and non-accountable car allowances.

Guidelines for accountable car allowance plans

Accountable plans require tracking of business mileage to prove that the allowance has been used for business purposes. All substantiated portions of the car allowance are excluded from an employee’s taxable income. Accountable expenditures are deductible as a business expense for an employer.

In accountable plans, employees typically track business mileage using a company mileage log. The company is responsible to keep the mileage log and can face penalties if it cannot show substantiation when audited – even for employees that have left the company.

Non-accountable car allowance plans

A non-accountable or taxable auto allowance does not separate business and personal vehicle mileage. The IRS treats this type of allowance as taxable wages. Many companies prefer non-accountable plans because they are simple and require little time to administer.

Non-accountable policies have four fundamental flaws:

1. The car allowance amount is not based on data.
2. A one-size-fits-all approach negatively impacts morale and productivity.
3. The car allowance is taxed, costing both employee and employer.
4. A "keep it simple" approach leaves the allowance amount unchanged for years.

Beating competition with an accountable, non-taxed car allowance

In our annual survey, 79 organizations out of 100 had not evaluated their car allowance in over 11 years. And 81 percent based their car allowance not on actual expense data but on either what they thought was fair or what competitors were offering.

Out of this same 100, 68 organizations provided a one-size-fits-all, flat car allowance for everyone, regardless of their actual expenses. The vast majority (87%) were paying out non-accountable, taxable allowances.

It doesn't have to be this way. It's easier than you might think to implement a data-driven, non-taxable auto allowance. Doing so could give you an edge over the competition. 

Think about it. If employees no longer are losing 30-40% of their car allowance to taxes, that's a huge benefit. Plus, most companies that go tax-free end up paying less per driver while delivering a higher benefit to all drivers.

Keep your company car allowance accountable and from running afoul of the IRS. Start the process by checking the results from our annual auto allowance study, or trying our self-guided, three-step process to develop a non-taxable car allowance or reimbursement rate. Or try comparing your taxable auto allowance to a non-taxable FAVR plan to see how much you could save.