Skip to Content

Electric vehicles still struggling to be cost-competitive

FORTUNE — Even with tax credits as high as $7,500 per vehicle, the total cost of owning an electric or hybrid plug-in vehicle is higher than its gas-run counterpart.

Based on 2011 prices, federal tax credits alone do not offset the higher lifetime cost of driving electric vehicles compared to traditional gasoline-fueled cars, according to the Congressional Budget Office’s presentation at the 2013 Energy Information Administration conference on June 24. A key assumption underlying the analysis is that tax credits are responsible for an estimated 30% of electric-vehicle sales.

Currently, the federal government provides subsidies on purchases of full electric vehicles and hybrid plug-in vehicles, which have an externally charged battery that can be powered by gasoline. The federal subsidy varies from $2,500 to $7,500 in tax credits, depending on battery capacity.

According to the CBO report, the federal tax credit would need a substantial increase for greenhouse gas emission-free cars to be as cost-effective as traditional vehicles. It would take a federal tax-credit of more than $12,000 to make a 16-kWh battery-powered car commercially competitive with a traditional high fuel-economy compact car, according to Ron Gecan, analyst at CBO’s microeconomic studies division. A 16-kWh electric vehicle currently yields a $7,500 tax credit.

MORE: 4 reasons to stay in your current job (for now)

Gasoline prices also play an important role in determining the cost-competitiveness of electric vehicles versus internal-combustion engine cars. At current levels of government support and with gas prices below $4 per gallon, according to the CBO analysis, “green” vehicles are not cost-competitive.

If gas prices crossed $6 per gallon and government support held constant, a 16-kWh electric car would become a competitive buy compared to a fuel-efficient compact car. There are government tax credits for both vehicle types, which reduce the initial purchase price of these cars.

Today’s fuel economy standards are also designed to promote environmentally friendly auto designs. Indeed, the 2012 Corporate Average Fuel Economy (CAFE) standard requires a car-manufacturer to raise fleet-wide fuel economy, beginning in 2017, to 54.5 miles per gallon by 2025. Environmentally safe transportation is coming, and automakers today recognize that.

Car companies have adopted an “all hands on deck strategy,” says Alan Baum, a principal at Detroit-based automotive market research and forecasting firm Baum & Associates. “They need to invest in fuel-efficient technologies, including electric vehicles, to not just comply with higher emission standards but also to be ready to seize the moment when changes in technology reduce electric vehicle costs and drive sales volume.”

Despite the well-publicized troubles with GM’s (GM) Volt, the electric vehicle market is growing. Between January and May of this year, 32,705 full electric and hybrid plug-ins have been sold in the U.S., compared with 14,226 of such vehicles over the same period last year, according to Baum & Associates research. “The numbers may be small, but the growth is significant,” says Baum.

Much of the growth in the category, this year, has come from sales of Tesla Motor’s (TSLA) Model S.

Launched last year, the Model S is the leading car in its segment. Having sold an estimated 8,850 cars this year, it has 27% share of the electric vehicle market, followed by the Nissan Leaf’s 23%, and GM’s money-losing Volt, at 22%, according to Baum & Associates.

MORE: Apple has its eyes on automakers

Analysts are also looking to tax-credit implementation changes proposed by the Obama Administration to further boost electric vehicle sales. Currently, when you buy an electric vehicle, you include the purchase in your tax returns, for a credit. With the new regulation, buyers would get a rebate on the price of the electric vehicle in the showroom, at the time of purchase.

Electric vehicles are more expensive than comparable gasoline versions largely because of the new technology that goes into these vehicles. For example, Ford’s (F) full electric Focus model list price is $39,995 while its gasoline version starts at $16,995.

The industry is “reasonably content” for now, says Baum. “But increasing federal tax incentives, would definitely help an industry, which is creating an entirely new segment.”