With gas prices at record levels, it raises the question of whether a company's car allowance or vehicle reimbursement program should factor in the fuel efficiency of the vehicles being used.
The short answer is, it depends on the method of vehicle reimbursement. In the case of a standard monthly car allowance or a mileage reimbursement rate, the more fuel efficient the vehicle, the farther the payment goes for the employee. This is because in each system the rate of payment is independent of how much the employee actually pays for gas per mile.
In the case of a fuel reimbursement or fuel card, the higher the fuel efficiency, the less the company has to pay the employee per mile. This is because the payment directly pays for the fuel costs, unlike methods that pay a standard rate. However, an employer ends up subsidizing an employee's choice to drive a gas guzzling vehicle if the employee so chooses.
The direct relationship between gas mileage and gas cards makes a good argument for limits on how much and how often the employee can use the gas card (same with fuel reimbursement programs).
There are other reimbursement methods that calculate their reimbursement rates to include fuel efficiency – but not of the vehicles employees actually drive. In the case of a standard mileage rate like the IRS business rate, the cents-per-mile is based on average vehicle costs nationwide over a set number of miles driven. This rate thus takes into account vehicles' fuel efficiency only in the most general sense.
On the other hand, fixed and variable rate allowances use a standard vehicle to derive reimbursement rates. The organization calculates payments without any regard for the fuel efficiency of any employee's vehicle. For example, the company might elect to use a 2022 Chevy Equinox or a 2022 Ford Escape as its "reasonably sized vehicle" to generate rates.
In that case, no matter what each employee drives, the fuel portion of their reimbursement rates will be based on a combination of the fuel efficiency of that standard vehicle and the gas prices of each employee's garage zip code. An employee can save money against the reimbursement by driving a vehicle that gets better gas mileage than the standard vehicle.
Even though an employee's gas mileage only directly impacts fuel reimbursements and fuel cards, it is important for an organization paying a standard car allowance or mileage rate to take employee vehicle choice into account. The vehicle choice, as it turns out, can indirectly impact company costs and employee behavior.
Take a standard car allowance as an example. When gas prices rise, an employee who drives a gas guzzling SUV or pickup truck might choose to limit trips in order to save money. This could affect productivity if the decrease of in-person contacts reduces sales or the quality of client relationships.
Alternately, an employee receiving a mileage reimbursement might be tempted to buffer their reported mileage with extra miles to offset higher-than-average fuel expenses. Or they might drive unnecessary miles, knowing that the more they drive, the less expensive each mile becomes (this is because of fixed vehicle costs, the Achilles heel of mileage rates).
Standard reimbursement amounts or rates can also create perceptions of inequality when it comes to fuel efficiency. Different employees already incur different levels of vehicle expense based on where they live and how much they drive. Gas prices in California average around $1.50 more than the national average. Insurance premiums in Michigan run 90% higher than the national average.
Now add to regional disparities the different levels of expense created by different vehicle choices. You can certainly argue that standard rates incentivize more fuel efficient vehicles. But employees may not take that into account if they find that their car allowance or mileage rate is not keeping up with their actual business-related vehicle costs. Pressure exists to subsidize vehicle choices for employees.
One way to deal with varying fuel efficiencies among employee vehicles is to standardize the vehicle used to determine the reimbursement rate in the first place. (But still allow employees to drive their vehicle of choice.) This, as established above, is the approach of fixed and variable rate allowances.
The great weakness of standard car allowances is taxation. Because 30-40% of a car allowance goes to federal and state taxes, it is common for car allowances to under-reimburse employees. High gas prices make things worse.
The most popular non-taxable method, the IRS business mileage rate, ultimately incentivizes employees to drive more than necessary, and can leave low-mileage employees dissatisfied and under-reimbursed. The mid-year boost to address 2022 gas prices might not be enough for those drivers.
Standardizing the vehicle used to derive reimbursement rates solves these problems while freeing the company from subsidizing employee vehicle choices. A company will typically choose the most suitable vehicle for the job, such as a mid-size sedan or crossover for a sales rep, and then derive rates based on the zip code where each employee's actual vehicle is garaged (since gas prices and other costs are geographically sensitive).
This approach eliminates the unfair subsidies for gas guzzlers associated with gas cards. It eliminates the tax waste associated with standard car allowances. And it resolves the discrepancies between employees working in different regions associated with standard mileage rates. When a fixed and variable rate (FAVR) approach is added, you also resolve the discrepancies between low-mileage and high-mileage drivers.
Learn more about standardizing the vehicle and localizing the rates in our reimbursement calculator - we'll even give you a free recommended rate. If you are interested in understanding the concept of a fixed and variable rate allowance (FAVR), read our guide to this approach by selecting the button below.