A standardized mileage rate, such as the IRS rate, and employee-reported mileage both can make it hard to control costs while supporting employees sufficiently – here are three best practices to fix the problem.
Mileage reimbursements, cost control, and employee satisfaction
Standard mileage reimbursement practices often put both employers and employees into a conundrum when it comes to properly reimbursing the use of personal vehicles. The tension arises from three competing goals:
- Providing a sufficient vehicle reimbursement
- Controlling vehicle reimbursement costs
- Maintaining a simple reimbursement policy
Why do these three goals conflict? In a nutshell, different employees face different vehicle expenses based on territory-sensitive costs and overall territory size (i.e. mileage amount). High-mileage employees can cost the company a lot of money while low-mileage employees may not receive a sufficient reimbursement. These low-mileage employees can then feel pressed to increase mileage in order to increase the auto reimbursement. These problems arise because the company has opted for the simplicity of a one-size-fits-all mileage rate with employee-reported mileage.
Best practices to cover employee vehicle costs while controlling company costs
These issues can be properly addressed through more accurate mileage rate calculations and through better mileage tracking practices. But most organizations need help to improve these policy areas.
1. Adopt a smarter mileage reimbursement rate – NOT the IRS rate
Providing the IRS mileage rate keeps things simple. The IRS developed its mileage rate for use on individual tax returns as a business mileage deduction tool. Government agencies soon embraced it as a vehicle reimbursement rate, which then trickled down to corporations. Now the IRS mileage rate seems to have become the standard mileage rate in the corporate world.
Organizations like the government mileage rate because it’s administratively simple. Employees record their business mileage, which is multiplied against the mileage rate. However, the government mileage rate is inaccurate for most drivers. Keep in mind that the government rate was not designed for accurate vehicle reimbursements but to estimate tax deductions. For this reason, the IRS mileage rate tends to over-reimburse high mileage business travelers and under-reimburse low mileage business travelers.
Several inaccurate cost components factor into the IRS mileage rate:
- Last year’s average vehicle costs across the country
- Last year’s average auto insurance premiums
- Average depreciation, based on 14,000 miles
Unless your employees are actually experiencing last year’s average costs, driving around 14,000 miles, and experiencing the average depreciation on their vehicle, you are not accurately reimbursing employees using the IRS mileage rate.
Low-mileage drivers in particular are acutely aware of the inequity of the government mileage rate and will accumulate or report the amount they believe will deliver a fair reimbursement. But mid-level and high-mileage drivers can also be motivated to drive extra miles to boost their take-home pay, reducing your ability to control costs.
The best way to control costs is to provide a mileage rate that does not reward employees for driving more miles. Employees need a rate that is accurate and based on actual costs. The rate should be a break-even rate that adjusts each month with gas prices for each employee as well as the costs they experience within their territories.
Yes, this means using a different rate for each employee. But that’s the only fair way to reimburse all employees, since they each experience different costs.
What about simplicity? Unfortunately, simplicity in this case becomes the enemy of your bottom line. However, this is why organizations like mBurse exist – to help businesses create and administer equitable and cost-effective auto reimbursement programs.
2. Standardize the vehicle used to calculate mileage reimbursements, not the mileage rate itself.
As we established in the previous section, the only way to accurately and equitably reimburse employees is to use more than one reimbursement rate. The best way to achieve this is to adopt a standard vehicle suitable for the role your employees' play, and use that vehicle as the basis for calculating appropriate vehicle costs for each employee.
Different employees incur different ranges of business vehicle expenses based on territory size, geographically-sensitive cost differences, and vehicle choice. They cannot control the first two factors, so the employer should factor those in. But neither should the employer be required to subsidize the added costs of a particularly expensive vehicle to own and operate. Hence the standardized vehicle for rate calculations.
Once you choose a standard vehicle, such as a mid-size sedan, you calculate the expected annual costs for that vehicle driven within the range of annual miles most likely for your drivers. You then adjust those annual costs up or down based on the regionally-sensitive cost differences (i.e. gas, insurance, maintenance, taxes/fees) experienced by each employee (or group of employees). Once you calculate the expected annual costs, you can turn that number into a mileage rate, one that can be adjusted over time as you get more accurate data or as expenses change.
If you're willing to take an extra step, it can make your reimbursements even more accurate by dividing vehicle costs into two categories: costs of ownership (fixed) and costs of operation (variable). But that's for a different blog post.
While the vehicle expense data necessary to calculate accurate, equitable mileage reimbursements is out there, you might find it most cost-effective to partner with a data firm like mBurse to provide you with up-to-date calculations and do the heavy lifting for you.
You can create a smarter mileage rate using a standardized vehicle, but without this third best practice in place, you still could face cost control problems. You have to use a mileage tracker that is accurate and reduces employee control over reported mileage.
If you are paying the IRS rate, your employees have probably already noticed the inequity of the rate and acted accordingly. They can’t control the rate, but they can control the number of miles reported. They will seek to report the number of miles that provides them a rate they believe is fair, especially when gas prices and other expenses rise.
We are not suggesting you become the mileage police – we are suggesting you automate as much of the mileage recording and calculating as possible. Using an Excel spreadsheet or an expense system for mileage reporting allows employees ultimately to decide how much mileage to report. We can almost guarantee that if you watch the numbers, you will see an uptick in mileage reported when fuel prices and auto insurance premiums increase.
Instead, take immediate steps to use a mileage tracker that either captures mileage in real time or a tool that uses mapping to calculate the mileage.
Adopting mileage reimbursement best practices with intentionality
The inaccuracies of your mileage rate and mileage capture directly impact your auto reimbursement costs. We can’t stress enough the importance of using a mileage rate that accurately reimburses employees. Arbitrarily making a number up will not help you in states with expense indemnification labor codes like CA, MA, RI, ND, SD, and IL or states that have experienced lawsuits related to employees not being reimbursed (MI, NY).
Now is the time to address inadequacies in your mileage rate and mileage log. If you are not ready to make huge changes, adopting a more accurate mileage tracker is a good first step. But with any step you take, remember to be intentional and to communicate transparently with your employees.
Change management is an art, and employees want to know that they are valued and are being treated fairly. For more information on creating an accurate, equitable mileage rate and communicating transparently to employees about changes to business vehicle policies, schedule a call with mBurse and we'll be happy to coach you.