What is a mileage reimbursement?
A mileage reimbursement is a repayment to drivers for expenses incurred while driving their personal vehicle on company business. Read on for answers to the FAQs of mileage reimbursement!
The IRS mileage reimbursement rate
A mileage reimbursement can have a few different variations. One is to simply pay the IRS standard mileage rate, which is the tax-free cents per mile rate for individuals and employers.
A lot of people want to know what the IRS mileage reimbursement rate is. Effective July 1st, 2022, it became 62.5 cents, but that will change for the 2023 calendar year.
That's the IRS mileage rate and it reimburses drivers who use their personal car for work.
Mileage reimbursements are for employee-owned fleets
Mileage reimbursements are not for company-owned or leased vehicles. (You might have a fuel card system in that case, but that isn’t a real reimbursement.) The kind of reimbursements we’re talking about are for the business use of employees’ personal vehicles.
Fixed rates and variable rates make mileage reimbursements
Mileage reimbursements come in different shapes and forms. Some mileage reimbursements are called car allowances, some are called FAVR. But what all mileage reimbursements have in common is that they are some combination of two reimbursement rates.
Those two rates are a fixed rate and a variable rate. (And that's what FAVR stands for: “fixed and variable rate”). All mileage reimbursement programs are one or the other, fixed, variable, or some combination of both.
A fixed rate is, for example, $500 per month.
A variable rate is, for example, 62.5 cents per mile.
A fixed and variable rate mixed reimbursement would be, for example, $400 per month plus 25 cents per mile.
A fixed rate reimburses for a fixed cost, an example of which would be depreciation or insurance .
A variable rate reimburses for a variable cost, like for fluctuating gas prices.
Are “car allowance” and “mileage reimbursement” synonyms?
Yes and no.
A car allowance usually refers to a fixed-rate mileage reimbursement. That's why mileage reimbursements are sometimes called car allowances. If you give your employee $400 per month to drive, that is eligible for consideration as a tax-free mileage reimbursement program, sanctioned by the IRS (or the CRA in Canada). You just have to account for that reimbursement—that is, provide mileage logs or other accounting documents to prove the allowance you’ve given your driver is actually a legitimate business expense.
Bad reimbursements: taxable car allowance
So that would look like this. You give your driver $400 a month with a paycheck but then neither you nor your driver keep proper records of their activities that month. You don't account for them in any way. Then that would just be another piece of income and it'd be taxed at your payroll rate and their income rate.
So obviously, you need to keep records of driving, account; for the business purposes of their trips in their privately owned vehicle. And then you're one step closer to making your mileage reimbursement tax free.
Who uses mileage reimbursements?
1. Self-employed drivers and contractors
It can also be used by the self-employed, like a DoorDash driver. You can pay it to yourself, or claim it on your taxes. Just claim the rate and offset it against your earnings on your taxes and your use of your privately owned vehicle as a DoorDash driver, Uber driver, whoever you are, your mileage will be completely tax-free. You must do this for your tax returns and, for help with that, consult your accountant.
2. Employers and their employee-drivers.
Mileage reimbursements are paid to employees who do business mileage in their personal vehicles.
Many companies have mileage reimbursement programs for their employees, like Coca-Cola.
And these aren't just necessities. It's not only necessary that you have a mileage reimbursement progra—a fair one compensates your employees for business-related costs they’ve incurred. Mileage reimbursements are also, for companies, tools that they can use to reduce business travel expenses, and more.
Mileage reimbursement programs:
- Save companies and employees money
- Reduce corporate risk
- Save drivers, admins, and operators time
- Supercharge recruitment objectives
They can be used to make vehicle operations more efficient. Companies use mileage reimbursement programs in order to get off fleet. Mileage reimbursements are an alternative to company owned or leased fleets, which are expensive and risky.
So mileage reimbursement programs are for businesses and individuals alike.
Why do you need mileage reimbursements?
You need mileage reimbursement plans to benefit from legal tax deductions and to stay in compliance with IRS rules. Mileage reimbursements are common in the US and Canada.
The goal of all mileage reimbursements is to issue tax-free payments to cover employee driving expenses. The ideal mileage reimbursement is a complete income and payroll tax deduction on vehicle costs.
Because think about it: if you drive for work in a company car, for example, in a fleet vehicle, you don't pay any tax on that.
Neither does the employer. It is a business expense set off against their profits. However, if employers pay a sloppy, taxable car allowance—and you should never do this—mileage allowances could get taxed.
If you live in the US and Canada and you want to know how to implement a cost and time-saving, risk-reducing, talent-attracting fair mileage reimbursement program, read on.
How do you get a mileage reimbursement?
For a company to get such a program you first need to decide what your goals are, and your goal could be to reimburse yourself for DoorDash driving. Or you could be an employer who needs to reimburse their employees who drive their personal vehicle for work.
What I'm chiefly going to describe is how employers can reimburse their teams for the business use of their personal vehicle. If you are a contractor driving on your employer’s behalf, this information is also valuable.
It's valuable because we're going to discuss things like the IRS standard rate, and actual expenses accounting practices. You can use these same strategies on your personal income tax filing. However, I’m not talking about personal income tax rules. These are not personal income tax instructions. These following notes are rather on the theory and IRS rules of mileage reimbursements.
So once you've established your goals—for example, “I need to pay my employees back for the business use of their personal vehicle”—what you then need to know is what mileage reimbursement style do you want to pick?
How do you want to reimburse your employees? Because there are different ways you can do it. What all these mileage reimbursement programs have in common is they require record keeping.
However once you've kept records it's fairly easy to actually dispense the reimbursement. There are a few arrangements you can choose from in order to pay your employees in a style that is convenient for you. But you need to keep records no matter which way you go. No matter which side you pick, you need to keep records. And those records include mileage logs, or the data gathered by a mileage tracking app. A mileage tracking app and a log book do the same thing, only one is digital and one is paper.
So you keep records. You track everyone's miles with a tracking app or with a mileage log book and you then pick an arrangement of fixed and variable rates. This is essentially what a style of reimbursement comes down to. It's the arrangement of fixed and variable rates that I spoke of earlier.
That’s another commonality for all mileage reimbursement styles: all mileage reimbursement plans or programs have in common that they are some arrangement of fixed and variable payments.
With that in mind, we can begin calculating.
How to calculate a mileage reimbursement
In this section we talk about the three ways to calculate a mileage reimbursement, plus how you calculate tax for each mileage reimbursement program.
So how you reimburse your employees is one of the three following styles. All fixed, all variable, or fixed and variable. All fixed is generally called an allowance or a flat rate allowance. All variable is called cents per mile. A combination of the two is called FAVR.
Those are the three arrangements or styles of your reimbursement. Once you have record keeping, then you pick one of these three options. I will start by describing the flat rate allowance style. Then I will describe the cents per mile style and then I will describe FAVR.
Three ways to structure mileage reimbursements:
- Flat allowance method (fixed rate only)
- Cents per mile method (variable rate only)
- Fixed and variable rate method
1. Flat allowance method
The flat allowance method is: you pick a number (better yet, you do market research to determine the number—this is what Cardata’s clients have) and issue that rate to your employees every month, no matter how many miles or how often they drive.
So Dan gets $500 per month, every month, with his paycheck.
(If you want to know how to figure out if that’s a fair rate, get in touch with us and we can tell you based on your unique business situation.)
Calculating tax on the flat allowance (fixed rate) mileage reimbursements
To use the flat allowance method you select number that your drivers should reasonably receive, and then perform the following simple calculation to determine how much tax your driver needs to pay.
So for example, Dan's allowance is $500 per month. If Dan then drives 1000 miles in a month then you just divide $500 by 1000 miles which gets you 50 cents per mile.
Good news, you don't need to pay any tax on that amount. Assuming all the other expenses add up to zero, 50 cents per mile is under the IRS standard rate 62.5 cents (2022 calendar year; changing soon).
That would have been $625 for the month. If your flat allowance is less than mileage times the IRS rate, you're good. It's a tax free mileage reimbursement.
Whether that's fair, you can determine in conference with your drivers, or by doing market research and finding out what a fair allowance is before providing said allowance to employees. And that's how you calculate a flat allowance mileage reimbursement for tax.
So the cents per mile method is one variable rate per mile driven.
A cents per mile rate is just any number of cents paid per mile that your driver drives. So, for this one you pick a number either by doing market research or conferring with your drivers, and then keep track of their miles and pay them a certain number of cents for every mile on that record.
So if they drive 1000 miles and you have decided to pay them 50 cents per mile, then they get $500 for one month.
If you want to learn whether a cents per mile rate is a good idea for your company, check out this video:
How to calculate tax on variable only, cents per mile reimbursements.
Just check if the cents per mile rate is lower than the IRS standard optional mileage rate—right now in 2022 it is 62.5 cents per mile. 50 cents is less than that. So you're good no tax.
The FAVR method
Last is the FAVR, fixed and variable rate FAVR, methodology and now you have one flat allowance and one cents per mile component. Now in order to determine a FAVR allowance or mileage reimbursement you need to figure out independently one flat sum like we talked about above and one variable one cents per mile rate like we talked about above. FAVR is just these other two mileage reimbursement programs put together into one and there are very good reasons for why we do this. (Which I get into in our FAVR article.)
You actually have to do market research in order to pay a FAVR rate, because there is nothing to compare a FAVR allowance to.
This mileage reimbursement is the only one where you are allowed to pay over the IRS standard rate. So a FAVR allowance is eligible to reimburse tax-free at the equivalent of 70 cents per mile.
FAVR can therefore be an attractive bonus in a generous compensation package, which helps with recruitment initiatives.
How to calculate FAVR
To calculate FAVR you first do research to come up with a flat fixed rate and you do this by calculating all of the fixed expenses. (Consult our 2023 FAVR guide for all the fixed expenses.) You will come out with a number like, e.g., $200 per month.
Then you calculate a variable cents per mile rate for all of the variable expenses. You might end up with something like $0.15/mile.
Then you pay, in arrears, a FAVR mileage reimbursement to your employees. As long as you do the work upfront you know you don't need to compare it to the IRS mileage rate to determine tax. FAVR is more work to set up but has the potential to reward employees while also guaranteeing efficiency for businesses.
Mileage reimbursement calculator
How much is an average FAVR mileage program?
An average FAVR reimbursement might be $700 per month.
The average fixed rate would be about $490, the average variable rate, 24 cents per mile. The average mileage per month would be about 950 miles, for the average mileage reimbursement of $700 per month.
Average fixed rate: $490
Average variable rate: $0.24
Average mileage driven: 950
Average combined mileage reimbursement: $700
Methodology: an average of dozens of companies and thousands of drivers on FAVR programs in the US and Canada. Internal Cardata Market research.
Can you reimburse commuting mileage tax-free?
Not generally. Under Internal Revenue Service (IRS) rules in the US:
Commuting might qualify as an itemized deduction if your employer requires that you travel from one business location to another. An example of this would be commuting from your regular place of employment to a branch office or anywhere else to do business on your employer's behalf.
However, Canada currently has a proviso that some commuting costs can be deducted if extra vehicle expenses were incurred for the employee to avoid public transit during the pandemic.
Do you want a mileage reimbursement program?
If you’re ready to implement a mileage reimbursement program at your company, to save time, money, reduce risk, and help with recruitment, reach out to Cardata today.