Because of the so-called 'luxury auto' annual depreciation dollar caps, your annual depreciation deductions on the new car may be the same whether you sold the old car or traded it in. As a general rule, you should sell your old business car for cash rather than trading it in if depreciation on the old car was limited by the annual depreciation dollar caps. In this situation, your basis in the old car may exceed its value. If you sell the old car, you will recognize a loss for tax purposes.

However, if you trade it in, you will not recognize the loss. By way of simplified example, let's assume a businessperson bought a $25,000 car several years back and used it 100% for business driving. Because of the annual depreciation dollar caps, she still has a $16,000 basis in the car, which has a current value of $14,500. Now, she wants to buy another $25,000 car. If the old car is sold, a $1,500 loss will be recognized ($16,000 basis less $14,500 sale price). If the old car is traded in for a new one, there will be no current loss. Of course, if the old car's value exceeds its basis, the tax-smart move is to trade it in and thereby avoid a gain.

You also may be better off selling your old business car for cash rather than trading it in, if you used the mileage allowance method to deduct correlated expenses. For '97, the allowance is 31.5 cents for each business mile traveled; it was 31 cents in `96. The mileage allowance method has a bullet-in allowance for depreciation, which must be reflected in the basis of the car.

The deemed depreciation for '97, '96, '95 and '94 is 12 cents for every business mile traveled; it was 11.5 cents for '93 and '92. When it's time to dispose of a car, these depreciation allowances may leave you with a higher remaining basis than the car's value.

Under what circumstances, should the car should be sold in order to recognize the loss?

The complex rules that apply to purchased business autos are one reason many businesses are leasing autos instead of buying them. You simply deduct the business/investment use portion of annual lease costs, and, if the auto is a 'luxury' model (for example, if the lease began during '96, the auto's FMV exceeds $15,500), you add back to income during each lease year an IRS table derived income inclusion amount.

There are, however, a few special angles you should be aware of:

• If you trade in a car in exchange for a lower lease price on a new car, the transaction won't be a tax-free like-kind swap, so any realized gain or loss will be recognized under the rules that apply to a sale.
  
• If you pay an additional sum up front, it should be amortized over the life of the lease. Any refundable deposit required as part of the lease deal can't be deducted at all.

SUMMARY OF STANDARD MILEAGE RATES FOR 1997

• Business: .31.5 cents per mile.
• Charitable: .12 cents per mile.
• Medical and Moving: .10 cents per mile.