The Complete Tax Guide for Buying and Selling Cars in the USA

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All you need to know about car-related tax

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What are Taxes, and Should I Pay Them?

There are two certainties in life, as the saying goes: death and taxes. If you own a car, whether you purchased it new from a dealer or used from a private seller, there's a 99% chance that you are liable to pay taxes when buying a car. You also have to pay tax when you sell a car, whether you sell it to a person or a faceless corporation. There are hundreds of different rules for taxes on a car purchase alone, differing all the way down to city and county level, with only a handful of states that don't impose sales tax, at all.

Let's start with a basic definition of car tax: it's an amount you have to pay to the government, calculated on the price of a car. It can also be tax owed to the government from the profit you made by selling a car. This money is paid to the county, municipality, and state, depending on where you live, and while the government can use it at its discretion, we can take comfort in knowing that a percentage of it is used to pay for the building and upkeep of the road we drive on in the US.

This may sound like a terribly confusing topic - so, why read up on something as dreary as taxes when buying or selling a car? Why should you pay them in the first place? There are a few answers to the above. It's not just about paying tax, but also knowing that there are ways and means that allow you to save some money. If you live within driving distance of a state that does not charge vehicle tax, you could save a heap of money buying or selling there, for example. Also, consider the penalties. You may choose to not file taxes, or forget or refuse to file, but the IRS will eventually file on your behalf. Non-payment results in a penalty; this penalty is 0,5% of the tax you owe the government. If the process drags on for long enough, the penalty could be as high as 25% of the amount owed.

What are Taxes unsplash.com

Types of Car Taxes

Considering the overwhelming amount of information available on the topic, we'll stick to the most common vehicle transactions and facts about car tax by state. To give you an example of how complex it is, did you know that when receiving a car as a gift or a donation, it is still subject to tax?

There are five states in the USA that don't impose a state sales tax:

  • Oregon
  • Montana
  • Delaware
  • New Hampshire
  • Alaska

Even though these states may be free, there might still be some sort of cost involved that you'd never know about unless you were a tax practitioner. You could be liable for taxes when buying a vehicle out of state, or in the case of Oregon, pay a privilege tax passed on from the dealer. Oregon also charges vehicle dealers a privilege tax of 0.005% on the vehicle's retail price or any vehicle sold with less than 7,500 on the clock. Dealers usually carry this cost over to the person buying the car, though. There are also other costs involved when purchasing a vehicle, which, by definition, counts as tax. Here is a breakdown of various types of taxes.

Taxes When Buying a Car from a Dealer

This is the easiest option regarding tax, as the dealer will do the hard work for you. There are three specific fees and taxes to note when buying a car from a dealer, including a documentation fee (also known as tax, tag, and title), sales tax, and registration (also known as tag).

  • The registration fee may seem like an amount added by the dealer (they might charge additional fees for convenience), but it's still paid to the state. It covers the cost of registering a new vehicle, the documents needed for proof of ownership, and a set of plates. The amount charged and when it has to be paid is determined by the state, and is due either annually, or every two years. The amount is also calculated on a state level. In many states, it's a flat rate for all vehicles, but other states work on a scale that considers various factors. These factors are usually the weight of the car, its age, and how fuel-efficient it is.
  • The largest sum to be paid is the sales tax. Except for the states mentioned earlier, each state charges a percentage of the vehicle's price. The lowest rate is in North Carolina, coming in at 3%. The highest charge is in Oklahoma, with 11.50%. The national average is 7.42%, though most states sit above that. It's worth keeping this in mind because it can add a lot to a car's price. The average new car price in the USA, according to Kelley Blue Book, was $37,851 in 2020. In case you were wondering, 7.42% of $37,851 is around $2,808. In addition to the above, sales tax can also be charged on a county or municipal level. The sales tax on a new car might be 5%, but the county might charge an additional 4%. In effect, you're paying 9%. The good news is that certain states like New York put a cap on sales tax at a county level.
  • The final cost is the documentation fees, which are the costs the dealer charges for the preparation and filing of the sales contract and other paperwork. The state doesn't receive a dime of this amount, but living in specific states can be advantageous - some dealers are allowed to charge whatever they feel like, but the documentation fee is capped by law in some states.

There are two other tax implications worth keeping in mind when buying a car. If you're trading in a car, you either pay tax on the retail price of the car minus the trade-in amount, or tax on the full cost of the vehicle. It's worth investigating whether your state or a nearby state offers sales tax on the retail amount minus the trade-in amount, because it can save you some serious money. It's one of the two main advantages of trading your car in instead of selling it. Other benefits include less paperwork for you.

A last consideration: dealers like to lure customers by offering incentives, more commonly known as "cash on the hood." Most states will still charge you on the full price of the vehicle. Chevrolet, for example, currently has an $8,500 incentive on the Bolt EV. It brings the total vehicle price down from $37,015 to just $29,390. In most cases, you'll still be taxed on the full price. It can add as much as $4,256 to the incentivized price in states with a high sales tax percentage.

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Taxes When Buying a Car Privately

When a private sale happens between two people, a person or a business, there are still tax obligations. Most states require you to get a bill of sale or ownership title, which you need to register the vehicle at the DMV. The seller pays the taxes needed at the DMV, in addition to registration fees. The fee you'll be charged differs from state to state. Some states will simply charge you a percentage of the price you paid. Other states, like Texas, will charge you a rate of the Standard Presumptive Value. Standard Presumptive Value is the value of a car determined by an appropriate guidebook. Some states will even charge you an additional fee according to weight, or if a car is a gas guzzler.

When buying a car in a different state, you have to pay the state's tax rates in which you reside. For example, if you buy a car in South Carolina but you live in Florida, you'll be subject to the latter's tax rates. The tax rates at a county level still apply when it comes to private sales.

There are a few exceptions that count in most states. No tax is required when selling a car to a blood relative, when a car is received as a gift from a blood relative, or when a car is inherited. First-time buyers will be happy to learn that some states offer a one-off fee of $10 for a car sold for less than $4,000, too. To find out exactly how much tax is required on a purchase, it's best to phone your local DMV.

Leasing and Taxes

Leasing may seem like an excellent way to avoid taxes, but leased cars are still subject to tax.

In the states that are exempt from sales tax, you need only pay the registration fee at the DMV.

The same rules as buying from a dealership apply. Depending on the state, you either pay tax on the full amount, or tax on the maximum amount minus the trade-in. In other states, you are taxed on the deposit and every monthly payment you make after that. Other states will allow you to avoid the monthly fee by making a one-off payment on the overall price.

Small business owners might want to take a closer look at leasing rather than buying a fleet of vehicles. Keep in mind how you deduct the cost of these vehicles, however. Leased vehicle payments can be written off as a business expense. You are allowed to deduct the cost of new assets within the first year under Section 179.

Taxes When Selling a Car

The government views a vehicle as property, and as such, it is subject to personal property tax. But when it comes to selling a car, it depends on whether you make a profit or not. When you sell a personal vehicle for less than you paid for it, there's no need to pay tax. If, however, you are lucky enough to make a profit from a sale, the IRS requires you to report that profit as a capital gain. If the vehicle was modified by you when you had it, which resulted in the capital gain, you could claim those upgrades back, which should soften the blow a bit. You can make another deduction on top of that: the sales tax you originally paid when purchasing the car.

Capital gains are either over the long or short term; over the short period is taxed at up to 37% depending on the state, while long-term capital gains are taxed at up to 20%.

How are Vehicle Taxes Calculated?

There is no one-size-fits-all formula for calculating vehicle tax, as it's subject to state, county, city, and municipalities, and there are more than 10,000 different tax areas in the USA.

The tax rate is calculated according to your home address, so you can't buy a vehicle in a state that charges a lower percentage unless you also own a home in that state. If you're looking for a calculator for taxes when buying a car, we suggest you search for your particular state's DMV online calculator to find out what the requirements are. If you know the percentage taxed by your state, simply multiply the car's price by taking the percentage and converting it to a decimal figure. For example, Idaho charges a 6% tax, which means you multiply the cost of the car ($37,851) and multiply it by 0.06. In this case, it's 37,851 x 0.06 = 2,271,06. That means Idaho charges a sales tax of $2,271 on a $37,851 car. To find out more about calculating the true cost of buying a new car, read our blog post on this, here.

When buying a used car, taxes are a bit trickier. Some states allow you to work on a percentage of what you paid for the car, while others will demand a valuation from a reputable source. Some states will also tax according to weight and fuel efficiency.

Around half the states in the USA view a car as personal property, which means it's subject to annual personal property tax. The good news is that these states also have relatively concise formulas to determine how much you have to pay. Some use the Registry of Motor Vehicles, while others use the J.D. Power National Automobile Dealer's Association Official Car Guide's value. When you have the vehicle's value, you simply calculate the sales tax according to the state's tax percentage provided by one of the sources above. Remember to do a thorough search all the way down to the county or city you live in, as some also charge a set amount per $100 a car is worth or a set amount per $1,000.

How to Pay Taxes

Working out how much you have to pay is the tricky part. Luckily, paying for it is easy. When you buy a new car, the paperwork and taxes are usually sorted by the dealer and simply added to the price. For used cars and annual payments, the DMV's the place to be - and, the old days of standing in a long queue are over, as you can pay via mail or online now. You can also go directly via the IRS, but keep in mind that it's a federal body and not a state or county entity. Because taxes are so specific to the above, it's best to work via your local DMV.

Car Taxes by State

Below is a breakdown of car sales tax by state in alphabetical order:

StateTax Rate
Alabama2% + county + city rate
AlaskaOnly municipal rates apply
Arizona5.6% + county + plus city
Arkansas6.5% + country + city on the first $2,500. Then 6.5% on the balance of the price. Vehicles under $4,000 are exempt.
California7.25% + local taxes
Colorado2.9% + country + city + district
Connecticut6.35 % on vehicles under $50k, and 7.75% for vehicles over $50k
Delaware4.25% documentation charge
District of Columbia6% for vehicles that weigh less than 3,499 lbs. Vehicles between 3,500 lbs and 4,999 lbs are taxed at 7%. Vehicles over 5,000 lbs are taxed at 8%. Hybrid cars with mpg ratings over 40 are tax exempt.
Florida6% + local discretionary rate on first $5,000, plus another 6% on the balance.
Georgia6.6% flat rate, with an additional 1% if you live in Atlanta
Hawaii4.1666% in Maui county, 4.4386% in Hawaii county, and 4.7120% in Honolulu and Kauai county
Idaho6%
Illinois6% + local tax, plus 1.25% if you live in Chicago
Indiana7%
IowaOne-time 5% registration fee
Kansas6.5% + local taxes
Kentucky6%
Louisiana4.45 + local taxes
Maine5.5%
Maryland6%
Massachusetts6.25%
Michigan6%
Minnesota6.5%
Mississippi5%
Missouri4.225% + local taxes
MontanaFree
Nebraska5.5% + city + county
Nevada6.85% + local taxes
New HampshireFree
New Jersey6.625%
New Mexico4%
New York4% + local taxes
North Carolina3%
North Dakota5%
Ohio5.75% + local taxes
Oklahoma4.5% for new vehicles; used vehicles are charged $20 for the first $1,500 + 4.5% on balance.
Oregon0% on used vehicles, new cars taxed at 0.5%
PennsylvaniaFlat rate of 6%, but 7% for Allegheny County and 8% for Philadelphia.
Rhode Island7%
South Carolina5%, but capped at $500
South Dakota4%
Tennessee7% + local tax on the first $1,600, plus 2.75% pm the second $1,600 to $3,200.
Texas6.25%
Utah4.85% + local tax
Vermont6%
Virginia4.15% with a minimum of $75
Washington6.5% + local tax + 0.3% sales tax
West Virginia6%
Wisconsin5% + country tax
Wyoming4% + county tax

Tax Hacks

This is most likely the part you've been looking forward to the most - to buy a car and pay the least amount of tax. The brutal truth is that there's no way to get around it unless you happen to live in one of the states that don't charge vehicle taxes. Also, keep in mind that there are also hidden costs in individual states, above and beyond what we've discussed so far. In California, for example, a car requires a smog test before you can register it. Safety standards also count in some states. The result is you purchasing a vehicle that you can't register where you live.

You can buy a car in a tax-free state and register it under a false address to try avoid paying taxes on a car purchase, but the IRS is savvier than that. You wouldn't be the first to try it, and the IRS won't show any mercy when they find out. There are some exemptions, however. Vehicles built before 1973 are tax exempt in most states, and you don't need to pay vehicle sales tax if you are disabled.

Ditching the engine and going green will also save you some money, but only in the states that offer tax credit when buying a new electric or plug-in hybrid car. You can get up to $7,500 off the purchase price, but keep in mind that the federal government stops paying these grants once a manufacturer sells 200,000 of a specific vehicle.

It's not all bad, however. Think about the regulations in Sweden where you may not have to pay tax at all, but they do charge $31.40 for every gram of CO2 over 111g/km on your vehicle. A 2021 Ford F-150 hybrid has a 229 g/km rating, which means you'd have to pay an additional $3,705. Ouch.

Conclusion

With over 10,000 different tax areas, it's difficult to tell you exactly how much tax you need to pay. As you can see from the state-by-state guide, the state tax is easy, but it's the county and city tax that's difficult to find - and that's before you get to state-specific tax cuts, or states that don't allow you to register a car that emits too much CO2, or doesn't meet the safety requirements.

The best advice is to get familiar with the general idea of sales tax. The second piece of advice is to get in contact with your local DMV, as they'll be able to give you a comprehensive and accurate breakdown, right down to the county or city you live in. Local DMVs often have microsites with tax calculators for your convenience, too.

To Get Familiar with the General Idea of Sales Tax unsplash.com

FAQs

How do I calculate sales tax?

If you buy new, the dealer usually does that part for you, even if you live in a different state. When buying or selling a used car, taxes and fees can be worked out using the guide above. Generally, the IRS doesn't care if you lose money on a deal, but you'll be charged income tax if you make money. Our guide comprises a state-by-state checklist, but the local DMV will provide you with the exact percentages.

How much is the tax and title on a car?

The tax depends on where you live, but the title depends on a few things. When buying privately, there should be no cost from the seller. The DMV will charge you a fee for registering it in your name. New cars typically come with documentation charges, which can be hefty, but in individual states, put a cap on what a dealership can charge.

What states have no sales tax?

Oregon, Montana, Delaware, New Hampshire, and Alaska. If you move from one of these states to a state that charges tax, you will have to pay it when you register it under your new address.

Which state has the highest registration fee?

Florida charges $225 to register a car. The average cost in the USA is $53.69. Utah, New Jersey, Michigan, Idaho, and Colorado don't charge registration fees.

Why do I have to pay tax?

Paying tax is a legal requirement; the government uses this money for many projects that are intended to benefit all road users, including maintaining existing roads and building new roads.

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