Will Cash for Clunkers Affect Your Tax Debt?

About Debt

The Car Allowance Rebate System (CARS), more commonly referred to as the ‘Cash for Clunkers’ program, was initiated not only to serve as a stimulus for the dismally performing automotive industry but also to help the environment by taking fuel-inefficient vehicles off the road.

In essence, consumers can trade-in their older vehicles for newer, more fuel-efficient vehicles and receive a $3,500 or $4,500 credit toward the purchase.

The program, which is slated to run until Nov. 1, 2009 or when the allocated funds have been exhausted (for a second time), has received a significant amount of press. As such, many consumers have questions about the program.

One question that consumers have asked is how the CARS program will affect their taxes.

The good news is the ‘cash for clunkers’ program will not affect your tax debt because the vouchers are not treated as taxable income for the consumer. Instead, the vouchers take the place of a vehicle’s trade-in value.

There is a chance, however, that you will have to pay State or local sales tax on the CARS program credit depending on the sales tax laws in your State or locality.

Cash for Clunkers Requirements

As noted above, the CARS program provides a credit toward your vehicle’s trade-in value when you purchase or lease a new vehicle. To qualify for the CARS credit, both the trade-in and the new vehicle must meet certain requirements.

CARS Trade-In Requirements:

• The trade-in vehicle must have been manufactured less than 25 years before the trade-in date (for certain types of vehicles, the trade-in must have been manufactured by model year 2001 or earlier).
• The trade-in vehicle must have a “new” combined city/highway fuel economy of 18 miles per gallon or less.
• The trade-in vehicle must be in drivable condition.
• The trade-in vehicle must have been continuously insured and registered to the same owner for the full year preceding the trade-in date.

CARS New Vehicle Requirements:

• The new vehicle must be new – the CARS credit cannot be used toward the purchase of a used vehicle.
• The new vehicle base MRSP cannot exceed $45,000.
• The CARS credit cannot be used toward the purchase of a motorcycle.

Cash for Clunkers Credit Amounts

The credit amount you can receive through the CARS program will depend on the fuel economy of both your trade-in vehicle and the new vehicle.

If the combined fuel economy of the new vehicle is at least four, but less than 10, miles per gallon higher than the trade-in vehicle, the CARS credit would be $3,500.

If the combined fuel economy of the new vehicle is at least 10 miles per gallon higher than the trade-in vehicle, the credit would be $4,500.

The fuel efficiency requirements do differ slightly for trucks and SUVs, which are divided into three categories. For these vehicles, which include work trucks, the required difference in the combined fuel economy between the trade-in and new vehicle is smaller.

For example, to receive a $3,500 credit, the combined fuel economy of a Category 1 truck needs to be at least two, but less than five, miles per gallon higher than the trade-in vehicle. If the combined fuel economy of a Category 1 truck is at least five miles per gallon higher than the trade-in vehicle, the credit would be $4,500.