Compliance with local rules and regulations can be a complicated subject. Rules can vary across countries, regions, company size, etc. Employee mileage reimbursement is one of these tricky subjects. Should you reimburse your employees if they use their own car to drive to work? And if so, how much should you pay them and are the implications for taxes? This blog article series zooms in on all things mileage, so you’ll be an expert in no time!
The history of mileage reimbursement rates
For as long as employees have been driving for work, there has been a need to determine their business-related driving expenses. When employees use their own cars to meet with clients, attend professional events, make deliveries or fulfill other duties, employers can provide mileage reimbursement and compensate the costs employees made when using their personal vehicles for work.
To calculate the actual cost, employees must track their business mileage and the associated costs for fuel, repairs, insurance, and depreciation of the vehicle. Tracking and reporting all of these costs can quickly become a burden for employees, while processing and reimbursing these expenses can result in a large administrative workload for companies, especially for firms with many mobile workers.
Recognizing this challenge, tax offices began working with reimbursement consultants to determine a yearly standardized business mileage rate based on the previous year’s prices. This flat mileage rate provided a simple way for employees to calculate the tax-deductible business costs they incur throughout the year. As a result, many companies turned to this rate as an easy way to reimburse employees, rather than taking on the burden of calculating employees’ actual costs of business travel.
How do mileage reimbursement tax rates work?
Tax offices in most countries determine the total cost of driving one mile or kilometer using a private vehicle each year. This is the mileage reimbursement rate. Companies can then use this rate to calculate how much they should reimburse their employees when they know the distance this employee has driven for work. This amount can be paid to the employee tax-free, as it is in an estimation of a business expense.
Mileage rates were designed for tax purposes, and clarify the maximum amount an employee can be reimbursed for this type of expense without paying taxes. However, they are not binding. Companies have the freedom to use different rates to reimburse their employees for mileage expenses. When companies reimburse their employees at a higher rate than the standardized mileage reimbursement rate, however, the excess is considered as additional income for the employee and will be taxed.
The term ‘mileage allowance’ is used by tax offices to refer to the deductibility of expenses car owners accrue while they operate a personal vehicle for business, medical, charity or moving purposes. Taxpayers have the option of using this mileage allowance to calculate how much it costs to own and operate a car for tax-deductible purposes during a given tax year, but not the obligation. Taxpayers also have the choice of calculating the actual costs of using their vehicle, rather than using the standard mileage rates. But when they choose this approach, they must be sure to have documentation to prove the validity of their cost estimates. Because to be able to prove the deduction, they will need to write down their business miles driven as they drive them, and be able to answer the following questions:
- How many total miles did they put on each vehicle they drove for business last year?
- How many of those miles were for business, as compared to the number of personal miles (this will show the business percent of the total miles driven)?
- How many miles did they drive from business destination to destination (the tax office wants some real numbers, not just a vague guess of the total)?
- What was their business reason for driving to those destinations (such as meeting with client Bill Jones at XYZ Corp or pick up supplies at ABC Discount Store)?
- What other business expenses (such as parking) were related to these trips?
- Keep in mind that a mileage allowance is tax-free, but only if it doesn’t exceed a threshold called the approved tax rates/threshold.
Mileage rates are based on historical data
Relying on the standardized mileage tax rate means trusting last year’s information to reimburse this year’s workers. So since it’s a static rate based on historical data, it fails to account for differences in costs from location to location and for fluctuations in fuel prices. This means that using standardized mileage rates is an inaccurate method that ultimately ends up costing companies when their mobile employees are over-reimbursed. For companies interested in lowering costs and ensuring equitability, providing individualized reimbursements that account for each employee’s unique costs is the best option. While calculating individualized reimbursements may seem overwhelming at first glance, technology platforms, such as Rydoo, remove the administrative burden for companies. With the right partner to help manage the expenses of your (mobile) workforce, your company can provide fair, accurate, and defensible reimbursements that meet the needs of their rapidly-mobilizing workforce while also ensuring a cost-effective program.