As a business leader, you are no doubt aware that the decision to offer company cars involves complex tax implications that both employers and employees need to consider.
Certainly, the issue isn’t as simple as just buying a car and giving it to your employee – there are numerous hoops to jump through from a payroll, compliance and HM Revenue & Customs (HMRC) perspective – to name just a few.
Recently, we’ve been advising some of our small-business clients on the utility, costs, and upsides of offering company cars to their employees and we felt it would therefore be useful to write a short article on the subject, providing you with some much-needed tax advice.
However, this is by no means an exhaustive list and you should always discuss this complicated decision with an experienced accountant or tax adviser.
The tax benefits of using company cars
Company cars offer a range of tax advantages that can appeal to both employers and employees, primarily through the framework of "benefit in kind" (BIK).
The first important thing to know is that the taxable value of a company car is determined by the car’s list price combined with its CO2 emissions.
As you might imagine, the system is designed to encourage the selection of lower-emission vehicles by offering reduced BIK rates, potentially leading to significant tax savings for those who make environmentally conscious choices.
(Which also looks good when it comes to your ESG policy).
For the tax year 2024/25, electric cars (0 grams CO2 per km) are taxed at a BIK rate of just 2 per cent, which will gradually increase each year to 5 per cent by 2027/28.
Cars with CO2 emissions between 1 to 50 grams per km have varying BIK rates starting from 2 per cent up to 14 per cent, depending on their zero-emission mileage range.
On top of this, when your business purchases a company car, it can claim capital allowances, which help to reduce your overall taxable profit.
Specifically, for new zero-emission cars, businesses can claim a 100 per cent first-year allowance, offering an immediate tax relief on the full cost of the vehicle.
Employers can also recover VAT on the business portion of fuel and other car-related expenses which can result in substantial financial savings, especially for companies that maintain large fleets of vehicles.
It's important to note that VAT recovery rules allow for 50 per cent of the VAT on the lease costs of a car to be reclaimed, even if the car is used for some personal journeys.
I think it’s fair to say, these incentives (when used collectively) make company cars a financially viable and attractive option, but the tax savings associated with choosing environmentally friendly vehicles are the primary driver of this.
As such, we highly recommend using greener cars as company vehicles, rather than choosing cars that don’t offer the same relief.
Costs and potential negatives of company cars
Despite the appealing tax benefits, company cars come with their own set of financial and administrative challenges that can detract from the overall value they provide to your business.
One of the primary costs associated with company cars is the tax on fuel, for example.
If you, as an employer, provide free or subsidised fuel for private use, the employee is required to pay Income Tax on this benefit.
The amount of tax depends on a fixed multiplier, which for this tax year (2024/25) is set at £27,800 for cars and £757 on vans.
This multiplier is applied to the percentage rate corresponding to the car's CO2 emissions to calculate the taxable benefit.
(You may wish to discuss this calculation with a tax adviser).
Additionally, employers are responsible for paying Class 1A National Insurance contributions (NICs) on the benefits provided, which include both the car itself and any fuel provided for private use.
These contributions are calculated based on the total value of the car benefit and the fuel benefit, adding a significant cost to the employer.
You’ll need to report your Class 1A NICs via the P11D(b) form which, whilst not excessively difficult, does add some administrative duties to your list of jobs.
This administrative burden becomes a more considerable negative, however, when you combine your responsibilities with the other tax strategies.
Managing the tax and administrative aspects of company cars involves compliance with complex HMRC requirements, which can be both time-consuming and costly.
This includes keeping detailed records, calculating the appropriate taxes, and filing the necessary reports.
As a final point, I think it’s important to mention the depreciation costs, which cannot be overlooked in your overall financial strategy.
Company cars, especially new models, can depreciate quickly, often losing much of their value within the first few years.
This depreciation represents a real financial loss for the business, impacting the overall cost-effectiveness of providing company cars as an employee benefit.
As you might imagine, these drawbacks mean you’ll need to perform a careful evaluation of the pros and cons when deciding whether to include company cars as part of an employment package, balancing the tax and employee attraction benefits against the real costs and administrative demands they bring.
It’s also incredibly important to discuss the issue with your tax adviser, who can provide you with a detailed analysis of the pros and cons from an in-depth look at your finances, eligibility for reliefs/allowances and with your goals and aspirations in mind.
Our opinion on company cars
Fundamentally, the suitability of company cars varies depending on your business’s needs, the nature of the employment, and the environmental priorities of your company.
For businesses prioritising sustainability, investing in low-emission or zero-emission vehicles and being proactive in a tax incentive strategy, company cars offer a significant benefit to your business.
They enhance the company’s green credentials but also maximise tax efficiencies through lower BIK rates and higher capital allowances, giving your bottom line and tax strategy a real boost.
However, the ongoing administrative costs suggest that alternatives such as additional salary or mileage allowances might be more beneficial under certain circumstances.
Having said this, your accountant/tax adviser can perform much of the administrative work for you, when properly involved in the conversation and provided with the necessary information.
Again, this is why it’s so vital to discuss the issue with a tax adviser.
Not only can we reduce your tax liabilities, but we can also manage the compliance, reporting and allowance applications aspect of company cars for you.
Ultimately, we recommend taking a balanced approach to company cars and thinking the issue through in depth with your accountant.
