We are approaching a new year, and soon the Internal Revenue Service will publish the new new standard business mileage rate. For 2017, the IRS mileage rate was 53.5¢ per mile driven for business purposes, down a half-cent from the 2016 rate.
The new rate for 2018 means that businesses will deduct slightly more or less in automotive costs than they did in 2017. The new rate also means that employees will be reimbursed more or less. The changes are typically small, but if an organization has a substantial number of mobile employees, the numbers could add up.
Why does the IRS standard mileage rate change?
The mileage rate or “Safe Harbor” rate is a tax tool, a benchmark designed to help taxpayers report their mileage deductions. This rate also establishes the maximum amount a business can deduct tax-free as long as they provide a mileage log. The IRS rate is simply designed to make things easier for both the IRS and the taxpayer.
However, the IRS doesn’t intend for their mileage rate to exactly reflect the costs of operating a car. Instead, it was designed to strike a balance: too low, and businesses will spend time and money itemizing deductions; too generous, and the government gives up tax dollars. To meet this goal the IRS utilizes the research and recommendation of a third party to forecast the average costs of owning and operating automobiles for the next year.
This annual process creates problems, as it is nearly impossible to forecast costs for the next year. Only a portion of the formula relies on fixed costs; the variable costs complicate things greatly. In fact, one of the largest cost components factored into the IRS mileage rate is nearly impossible to predict—fuel prices.
The IRS uses last year’s fuel prices to determine next year’s mileage reimbursement rate. Although this methodology may sound logical, it is not. The IRS mileage rate does not track well with current gas prices and does not take into consideration any large variations in fuel costs. Because gas prices can vary widely between two years and fluctuate rapidly within a given year, the IRS rate can prove suddenly inadequate after a spike in prices.
The government has occasionally made mid-year corrections to the mileage rate. In 2011 the mileage rate increased mid-year from $.51 to $.555 cents per mile. In 2008 the rate made a significant increase from $.5050 to $.585 cents per mile. However, the government wasn’t actually looking out for drivers. The mileage rate changed as a result of government union workers threatening to strike unless the rate increased. (Of course, many mobile employees were the benefactors of the change.)
Except for four occasions in the past two decades when the agency issued mid-year corrections, each year-long rate passively witnessed big, meaningful swings in the actual price of gas, bringing it in and out of touch with reality. That raises serious questions about the suitability of the IRS mileage rate for business travel reimbursement.
Will the IRS raise or lower the 2018 mileage rate?
It depends on the government’s predictions of the costs of owning and operating vehicles will change next year for this year. But the leading indicators suggest that the IRS rate will most likely rise.
For one, the costs of car insurance are sure to rise. Auto insurance companies posted another year with very slim and even negative profit margins due to the increase in costly car accidents and disastrous storms (Irma and Harvey and hail damage. The costs of fuel and maintenance are going up, as are depreciation costs. As a result of these conditions there is a high probability that the IRS mileage rate will increase for 2018.
But will Uncle Sam get the mileage rate for 2018 correct?
The short answer is yes—if you’re using the rate for tax purposes. Because the IRS mileage rate is a tax tool used to offset receipts, it will always be correct for taxpayers.
However, the IRS rate is not appropriate for businesses reimbursing mileage. The rates do not adjust monthly with gas prices. When gas prices rise and the mileage rate remains the same, employees will find ways to close the gap between their expenses and their reimbursement. For example, they may pad their reported mileage to make up the difference.
Basing reimbursements on a fixed mileage rate derived from averaged historical data will always create financial hazards. The government does not have a crystal ball or insights into where fuel prices will go as a result of unforeseeable storms, natural disasters, OPEC decisions, or anything that may impact fuel prices in the future. How can they make these cost predictions around Thanksgiving for the upcoming year?
One fact remains: you will have to work with or around the IRS rate increase or decrease for your business as well as personally. If you’re using it to reimburse mileage, you can control costs by adopting a 21st century mileage log to record and calculate actual mileage as opposed to self-reported mileage. Or you might adopt a smarter alternative business vehicle policy to reimburse mobile employees.