Hybrid motor vehicles are passenger automobiles or light trucks (weighing 8,500 lbs. or less) that are propelled by both a gasoline engine and an electric motor that, usually, is recharged when the vehicle is operated.

Hybrids come in many shapes, sizes, and brands, and many popular gasoline-only vehicles are or soon will be offered as hybrids.

The purchase of a new hybrid motor vehicle comes with a significant tax advantage.

If you buy and use a new hybrid motor vehicle on or after January 1, 2006, you are entitled to a tax credit (i.e., a direct offset against federal income tax) of $400 to $3,400, depending on the fuel efficiency of the vehicle.

Example: Jane buys a qualifying hybrid passenger vehicle in 2006. Based on the vehicle model and fuel efficiency, Jane is entitled to a tax credit of $2,000. She can subtract the credit dollar-for-dollar against her federal income-tax bill for 2006.

The exact amount of the credit depends on the total weight of the vehicle, the fuel economy, and the lifetime fuel savings. The vehicle manufacturer should be able to provide this information. In essence, the more gasoline the vehicle saves, the higher the credit.

The tax law says the credit will expire at the end of 2010. However, for popular hybrid models, the credit will expire much earlier. Why? Because once a manufacturer sells 60,000 qualifying hybrid motor vehicles, the tax credit will be phased out over the next five calendar quarters for hybrid vehicles sold by that manufacturer.

Some other facts you should know about the credit:

• The vehicle owner receives the credit. So, a car leasing company that leases qualifying hybrids to customers would qualify for the credit.
• The credit must be claimed in the year the vehicle is placed in service. So, if you sign a purchase contract in late 2006, but the car is not delivered and put to use until early 2007, you may only claim the credit in 2007.
• The vehicle must be used mainly in the U.S. to qualify.
• Vehicles bought for resale do not qualify.
• No credit is allowed for any portion of the vehicle’s cost that is taken into account when making the Section 179 expensing election allowed for property purchased for use in a trade or business.
• Complex alternative minimum tax AMT) rules apply.

The qualified hybrid motor vehicle tax credit can provide an added incentive for those who want to buy and use a vehicle that conserves energy. However, the rules are tricky. Whether you have already bought a qualifying hybrid or are considering a purchase in the future, our firm is ready and willing to help you determine any tax benefit to which you might be entitled.

Note that other tax credits are available for qualifying vehicles — such as fuel cell vehicles and advance lean-burn technology vehicles — placed in service in 2006 through 2010. And a separate credit is available for 10% of the cost of a qualified electric vehicle placed in service before 2007.

Note, too, that, prior to 2006, buying a hybrid vehicle could have resulted in a tax deduction of up to $2,000. Unlike a tax credit, a deduction reduces the income subject to tax, and generally is not as beneficial as a credit. If you bought a hybrid vehicle in 2005, see us for more details.

For more information on these and other income-tax incentives for alternative energy vehicles, contact our firm today.

The information provided in the newsletter has been obtained from sources believed to be reliable but its accuracy is not guaranteed.