The IRS mileage rate was designed to be a tax deduction tool for individual taxpayers, but it has become the standard rate for business vehicle reimbursements. The results are costlier than you think.
The IRS business mileage rate is often the default way companies reimburse employees for use of their vehicles. It’s easy to calculate at 58.5 cents per mile for 2022. However, with that ease comes hidden costs.
The IRS mileage rate, also known as the federal "safe harbor rate," is not the best way to deliver auto reimbursements. Why? For three glaring reasons:
1. The IRS business rate cannot reimburse accurately.
In a nutshell, the federal safe harbor rate over-reimburses high-mileage travelers and under-reimburses low-mileage travelers. These inequitable results can lead to employee dissatisfaction as well as uncontrollable costs if you employ a lot of high-mileage drivers.
Each employee experiences different costs, so how can only one rate reimburse all employees fairly? As an auto reimbursement method, the federal rate offers anything but a "safe harbor." Here are three of the six components for calculating the IRS business mileage rate:
- An average of last year’s gas prices
- Costs based on 14,000 total miles
- An average of last year’s insurance costs
The other three cost variables also move the calculations even further from being accurate. If some employees live in areas with above average gas prices and above average insurance costs, the IRS rate may fall short of their expense needs, especially if they are not a high-mileage driver.
The biggest disparity arises because of fixed costs like depreciation, insurance, taxes, and registration. A driver has to drive a certain number of miles each month to cover these expenses. This is why low mileage drivers often experience the IRS rate as an insufficient auto reimbursement.
The lesson? Drive more, earn more – which leads to the second fatal flaw in using the IRS mileage rate for auto reimbursements.
Cost control poses one of the biggest challenges effective organizations must face. The federal mileage rate encourages "driving for dollars." If you pay the IRS rate as an auto reimbursement, your costs depend on two factors – an inaccurate mileage rate and employees’ mileage reporting.
Let’s consider the factor of employee-reported mileage. When providing an unquantifiable mileage rate, it is unreasonable to expect your employees to accept and quantify the rate. When employees experience gas price or insurance rate increases within their driving territories yet the mileage rate remains the same, they will drive more to offset increase costs. They may
- Overstate mileage
- Round mileage up
- Fabricate trips/mileage
No one wants to suspect their employees of dishonesty. But is it right to position employees to have to choose between acting with integrity and covering cost deficits? In the end, many employees will act in their self-interest.
3. The IRS business rate creates a tax code conflict.
The federal safe harbor rate has long been the standard auto reimbursement for states like California, Massachusetts, South Dakota, North Dakota, and Rhode Island to measure their employee expense indemnification labor codes. But the tax form of 2017 has put some organizations at the risk of labor code violations.
Under the current tax code, individuals cannot write off unreimbursed business expenses. For low mileage drivers, there’s a gap between their expenses and what the IRS rate pays. These employees can seek recourse under indemnification labor codes. If you have employees working in employee-friendly states, it is more crucial than ever to pay a rate you can quantify, unlike the IRS rate.
There are alternatives to the IRS mileage rate that will properly reimburse all of your employees, control costs, and adhere to labor codes in employee-friendly states.
The only thing that is good about using the IRS mileage rate as a vehicle reimbursement is that it is easy. It’s also easy to lose control of costs and to create dissatisfied employees. Take control of your costs, and evaluate your car reimbursement policy today.