Dec 3, 2013

If you are a business owner or an employee who needs a car for work, you should know whether it’s more tax efficient to buy or lease a car in Canada There are several steps involved in answering the question, “Is it better to lease or buy a car for a business in Canada?”

## Buying a Car – Tax Savings

Step 1: Calculate the cost of the car including fees and HST – Is it better to lease or buy a car for a business in Canada?

I phoned a local Toyota dealership in Toronto, Ontario, Canada and I asked, “How much does it cost to buy a Toyota Camry LE?” The total cost including Freight, PDI, other fees, and HST is \$34,910.

Step 2: Calculate the Maximum Amount for Capital Cost Allowance

The second step in the buy vs. lease analysis is to calculate the maximum amount of the cost of the car that you can depreciate for tax purposes. Depreciation (also known as capital cost allowance or CCA) for cars is 30% per year, and it’s tax deductible. The maximum cost of a car that is eligible for depreciation is \$30,000. Since the pre-tax cost of the Toyota of \$30,894 exceeds the \$30,000 limit, only \$30,000 will be eligible for depreciation.

Step 3: Calculate Capital Cost Allowance Deductions

In step 3, the total capital cost allowance (CCA) deductions are calculated:

In year one, the CCA is equal to \$30,000 x 30 percent x ½ = \$4,500 The 50% reduction (also know as the ½ year rule) only applies in the year of acquisition of the car. In year two, the CCA is equal to \$30,000 minus \$4,500 (the depreciation claimed in the previous year) x 30% = \$7,650. In year three, the CCA is equal to \$30,000 minus \$12,150 (the depreciation claimed in the two previous years) x 30% = \$5,355. In year four, the CCA is equal to \$3,749.The total CCA over four years is \$21,254. I’ve assumed that you are going to own the Toyota Camry LE for 4 years, but the analysis can easily be adjusted if you plan to own your vehicle for a longer period of time.

Step 4: Calculate the Tax Saving – Is it better to lease or buy a car for a business in Canada?

In step 4 of the buy analysis, calculate the tax savings from deducting the CCA (from step 3) on your personal tax return. I made the following assumptions:

Your personal tax rate is 40%. The residual value of the car is \$11,898 (confirmed by Toyota Dealership). This means that after four years the car is worth \$11,898. You use the car 70 % of the time for business purposes. The total interest cost over the 4 years to finance the purchase is \$1,371 or 1.9% (confirmed by dealer)

The tax savings from buying is calculated as follows:

\$21,254 (Total CCA deductions

\$1,371 (Interest expense 4 years)

\$22,625

x 70% (Multiplied by business use)

\$15,838

x 40% (Tax rate of 40%)

\$6,335 Tax Savings

The total tax savings from buying a car is \$6,335.

Step 5: Calculate the After-Tax Cost of the Car – Is it better to lease or buy a car for a business in Canada?

Step 5 is to calculate the after-tax cost of the car over the period of ownership.

\$34,910 (Cost of car (from step 1)

\$1,371 (Interest)

\$36,281

(\$11,898) (Less: residual value in year 4)

(\$6,355) (Less: tax savings (step 4))

\$18,048 or \$4,512 per year (After Tax Cost of Car)

In summary, the after tax cost to buy the Toyota Camry LE, is \$18,048 or \$4,512 per year. This concludes the buy analysis in answering the question, “Is it better to lease or buy a car for a business in Canada.”

## Leasing a Car – Tax Savings

The next part in completing the buy vs. lease analysis involves calculating the after-tax cost of the lease.

Step 1: Calculate Cost of Lease

In Step 1, you must calculate the cost of a lease over the lease term. When I phoned the Toyota dealership, I was informed that the monthly lease payment including taxes is \$516, and the interest rate implicit in the lease is 2.9%. The maximum deduction permitted by the Canada Revenue Agency (CRA) for lease payments is \$800 per month plus taxes. Since the lease amount of \$516 per month for the Toyota is less than the maximum amount of \$800, plus taxes, the full amount of the Toyota lease is tax deductible. The total cost of the Toyota lease over 4 years is \$24,768 (\$516 x 48 payments).

Step 2: Determine Tax Savings from Lease

Step 2 is to calculate the tax savings from deducting the lease payments on your personal tax return.

\$24,768 (Lease cost over 4 years)

\$17,338

x 40% (Your personal tax rate)

\$6,935 tax savings from lease

The tax savings from deducting the lease payments is \$6,935.

Step 3: Calculate After Tax Cost of Lease

Step 3 is to calculate the after-tax cost of the lease.

\$24,768 (Lease cost over 4 years)

\$6,935 (Less: tax savings)

\$17,833 after tax cost of lease

The after tax cost of the lease over 4 years is \$17,833, or \$4,458 per year.

Step 4: Compare Cost of Buying Car to Cost of Leasing Car

The final step is to compare the after-tax cost per year from buying a car to the after-tax cost per year from leasing a car.

Leasing is Cheaper!

The after-tax cost per year for buying a Toyota Camry LE is \$4,512. This is greater than the after-tax cost of leasing for \$4,458 per year. In this example it makes more sense to lease the car than buy. Each situation is different, so it’s important to complete the analysis each time when comparing the cost of buying vs. leasing.

Non-tax costs – Leasing

The other non-tax costs that you should take into consideration when leasing a car for work or for business purposes are:

Once you return the leased car after the lease is finished, the car dealer will require that you perform certain repairs so that car is in a saleable condition. Car dealers often limit the number of kilometers that you can drive on a lease. Pride of ownership is greater when you buy your car and you will probably take better care a purchased vehicle. Cash-flow is another factor to consider. The monthly payments are almost always lower on a lease than they are when financing a car or an outright purchase. Finally, the interest rate implicit in the lease and the interest rate charged on a car purchase loan are very important to take into account.

#### Disclaimer

The information provided on this page is intended to provide general information. The information does not take into account your personal situation and is not intended to be used without consultation from accounting and financial professionals. Allan Madan and Madan Chartered Accountant will not be held liable for any problems that arise from the usage of the information provided on this page.