Return to main report card

AUTOMOBILE SALES TAX AND INTEREST DEDUCTION

Key Points

·  Proposal would allow taxpayers who purchase new domestic or foreign cars and light trucks within one year of the bill’s date of enactment to deduct sales tax paid on those purchases on their individual income tax returns.

·  The deduction would be “above-the-line,” available to both taxpayers who itemize their deductions and those who claim the standard deduction.

·  Single taxpayers with income up to $135,000 and couples with income up to $260,000 would be eligible to claim the deduction.

·  Buyers may take a deduction for the purchase of new cars or light trucks with a total value of up to $49,500.

·  By reducing the after-tax cost of new cars and light trucks, the proposal might increase auto purchases and stimulate demand for an industry greatly affected by credit problems and the economic crisis but those effects would likely be small.

·  Much of benefit would go to households that would buy new vehicles anyway. Furthermore, allowing the deduction for purchases made since last November raises proposal’s cost without affecting sales of new vehicles.

Current Law

Current tax law contains no comparable provision.

Proposal

The proposal would allow people who purchase new cars or light trucks within one year of the bill’s enactment to deduct from taxable income all state and local sales and excise taxes for those purchases, up to a cumulative purchase price of $49,500. The deduction would be available to all taxpayers, whether or not they itemize their deductions, and would include purchases of both domestic and foreign vehicles. The deduction would phase out proportionately for single taxpayers with income between $125,000 and $135,000 and for couples with income between $250,000 and $260,000.

Discussion

The automobile industry just completed one of its worst years on record and all three domestic automobile companies are struggling. This proposal would encourage people to buy new cars and light trucks by temporarily reducing the after-tax cost through an income tax deduction for any state and local sales and excise taxes for qualifying vehicles bought during the applicable time period. Any increase in demand is highly uncertain, however, given the precarious state of the economy and many households’ finances.

The deduction would disproportionately benefit high-income taxpayers. Because the new deduction would reduce taxable income, its value would depend on the taxpayer’s tax bracket. Purchasers who pay $1,000 in sales taxes would save $250 if they are in the 25 percent top tax bracket but only $100 if they are in the 10 percent tax bracket. The largest benefit would thus go to households most likely to buy new cars in the absence of a tax benefit. Furthermore, lower-income households are much less likely to buy new vehicles and claim the deduction, although they would benefit to the extent that increased purchases of new cars and trucks would likely push down the cost of used vehicles.

Taxpayers who already itemize a deduction for state sales tax—typically residents of the nine states that have low or no income tax—would generally not benefit from the sales tax deduction. They already may deduct sales tax paid on large purchases such as vehicles. Some people who would deduct state sales tax instead of income tax could find it advantageous to switch to deducting state income tax plus sales tax on vehicle purchases, but having to make that decision would complicate their tax filing.

The deduction’s stimulative effect on vehicle purchases would be reduced because most car buyers would not see any benefit until they file their 2009 tax returns in 2010. Deferring the benefit would affect low- and middle-income households most since they are most likely to be cash-constrained, particularly during the current economic downturn.

Grade:   C-

Proposal would increase sales of qualifying vehicles but would disproportionately benefit middle- and high-income households.

Return to main report card