Following is a direct quote from IRS Publication 15-B regarding the taxability of demonstrator cars provided to a full time auto salesperson:
All of the use of a demonstrator car by your full-time auto salesperson generally qualifies as a working condition benefit if the use is primarily to facilitate the services the salesperson provided for you and there are substantial restrictions on personal use.
Since the IRS classifies the demo car as a "working condition benefit", then the benefit is not taxable, as long as your primary use of the demo is for purposes connected to your business. Unfortunately, there is no definite percentage given that the IRS considers to be primary use.
There is, however, an IRS Revenue Procedure 2001-56 that deals in depth on the taxability of demonstration cars. Basically to qualify for full exclusion from tax, you must be a full time auto sales person, your company must have a written policy limiting the personal use of the vehicle, and the employer must determine at least monthly that the personal use is being limited. As long as you meet these requirements, then you can fully exclude the demo car from being taxable as a fringe benefit. I am giving you a link below to this revenue procedure so you can review these requirements.
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