Buy a Hybrid Car (Year-End Tax Moves)

There's a $2,000 tax deduction for buying a qualified hybrid car or truck, and a $4,000 tax credit for electric vehicles. 2005 is the last year for the $2,000 clean fuel vehicle tax deduction. It will be replaced by a two-part hybrid car tax credit. The tax credit amounts will be set by the IRS and car manufacturers, ranging from $400 to $3,400. These new tax credits will have a very short life-span, the full tax credit will be limited to the first 60,000 hybrid vehicles sold in 2006. After that sales level is reached, the tax credit will be phased out.

Should you buy a hybrid now, or wait until 2006?

It depends on the hybrid model you are thinking about buying and your income tax bracket. For example, it is estimated that the popular Toyota Prius will have a tax credit of $3,150. A tax credit of $3,150 is much more valuable than a tax deduction of $2,000. For people in the 25% tax bracket, a $2,000 tax deduction is the same as a $500 tax credit. So if the hybrid model you plan to buy has a tax credit of more than $500, it will make sense to wait until 2006.

In order to take the tax deduction, the car must be placed in service (that is, actually driven by you) by December 31, 2005. If you want the clean fuel tax deduction, make sure to take delivery of your hybrid car by the end of the year.