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This article was first published in the October 2011 issue of Accounting and Business magazine.

It's not unusual for the government to give with one hand and then take back with the other. To some extent this is what has happened with luxury company cars. Recent changes have generally improved the tax relief that a business receives when it buys or leases a luxury car. However, since 6 April 2011 the tax cost of being provided with a luxury company car has increased for directors and employees, in some cases quite drastically.

Purchasing a company car

Since 1 April 2009 for limited companies, and from 6 April 2009 for unincorporated businesses, there is no longer any restriction to the amount of writing down allowance that can be claimed when a car is purchased. Instead, the rate of writing down allowance now depends on a car's CO2 emissions.

Cars with CO2 emissions of between 111 and 160 grams per kilometre (g/km) qualify for writing down allowances at the rate of 20% on the full purchase price. If CO2 emissions are greater than 160 g/km (normally the case for luxury cars) writing down allowances are given at the rate of 10%. Previously, writing down allowances for cars were subject to a GBP3,000 restriction. From 1 April 2012/6 April 2012 the rates of 20% and 10% will be reduced to 18% and 8%.

Cars qualifying for writing down allowances at the rate of 20% are included in the main pool, while cars qualifying for writing down allowances at the rate of 10% are included in the special rate pool. This treatment reduces capital allowances compliance costs as there is no longer any need to keep separate records for each car.

For example, a company purchases a Ferrari 458 Italia for the use of a director for GBP172,000. This car has CO2 emissions of 320 g/km. The car is included as expenditure in the special rate pool (as CO2 emissions are greater than 160 g/km) and the company will receive writing down allowances at the rate of 10% per year on a reducing balance basis. The allowance in the year of purchase will therefore be GBP17,200 (GBP172,000 at 10%), reducing each year thereafter. However, under the old system a balancing allowance was given in the year of disposal.

For example, if the Ferrari was sold after three years for GBP80,000 a balancing allowance of GBP86,000 (GBP172,000 - GBP3,000 - GBP3,000 = GBP166,000 - GBP80,000) would have been given in that year. The company would therefore have benefited from deductions for the fall in value of the Ferrari over the three years that it was owned. Under the new system, the sale proceeds are simply deducted from the pool of expenditure, and writing down allowances will continue to given on the remaining expenditure in the pool.

The new system is therefore beneficial where luxury cars are kept for several years, but may be less beneficial when they are replaced on a regular basis.

The treatment of cars already owned at 1 April 2009/6 April 2009 will remain unchanged for a period of five years. Therefore the GBP3,000 writing down allowance restriction still applies to these cars.

Leasing a company car

There has also been a change in the tax treatment of the cost of leasing cars. Previously, when calculating taxable profits, a proportion of the lease cost was disallowed if the retail price of the leased car was more then GBP12,000. This adjustment was based on the formula:

GBP12,000 + Retail price
2 x Retail price

Say the annual cost to lease a Ferrari 458 Italia is about GBP37,800 plus VAT. Only 50% of the VAT can normally be reclaimed for leased cars, so the cost to the business is GBP41,580 (GBP37,800 + 50% of GBP7,560 (GBP37,800 x 20%)). Previously, only GBP22,240 of the leasing costs would have been allowable:

GBP41,580 x GBP12,000 + GBP172,000 = GBP22,240
2 x GBP172,000   

There is now no adjustment where the CO2 emissions of a leased car do not exceed 160 g/km, regardless of the retail price. Where CO2 emissions are more than 160 g/km then 15% of the leasing costs are disallowed in calculating taxable profits. Therefore in the case of the Ferrari, GBP35,343 (GBP41,580 less 15%) will be allowed. This is a considerable improvement, and in many cases will make leasing a luxury car more attractive than purchasing one.

The new treatment only applies to leases entered into after 1 April 2009/6 April 2009.

Taxable benefit

When a company car is provided to a director or an employee the taxable benefit is based on the list price of the car and the level of its carbon dioxide (CO2) emissions. Previously, the list price was restricted to a maximum of GBP80,000, but since 6 April 2011 this is no longer the case. Therefore, for 2011-12 the taxable benefit for the Ferrari 458 Italia will be based on the list price of GBP172,000.

The taxable benefit is calculated as a percentage of the list price. For 2011-12 the maximum percentage of 35% applies where a car's CO2 emissions are 225 g/km or higher. This limit is being consistently reduced by 5 g/km each year, so for 2010-11 it was 230 g/km, and for 2012–13 it will be reduced to 220 g/km. There will then be a further reduction to 215 g/km for 2013–14.

Another recent change that may also have increased the cost of being provided with a luxury company car is the 50% additional rate of income tax that has applied since 6 April 2010 to directors and employees with taxable income over GBP150,000.

For example, a director with taxable income of GBP200,000 is provided with a Ferrari 458 Italia as a company car. For 2010-11 the director would have paid income tax of GBP14,000 (GBP80,000 x 35% = GBP28,000 at 50%) in respect of the company car. In 2011–12 this tax cost will rise to GBP30,100 (GBP172,000 x 35% = GBP60,200 at 50%). The tax cost will therefore more than double from 2010-11 to 2011-12.

From 6 April 2011 NIC rates have increased by 1%, so the employer's class 1A NIC in respect of the Ferrari has risen from GBP3,584 (GBP28,000 at 12.8%) for 2010-11, to GBP8,308 (GBP60,200 at 13.8%) in 2011–12.

Salary alternative

The drastic increase in the tax cost of having the use of a luxury company car after 6 April 2011 may mean that it is beneficial for a director or employee to instead receive additional remuneration and then to acquire or lease the car themselves – even if the director or employee is paying the 50% additional rate of income tax.

Let's assume the following for 2011–12:

  • A Ferrari 458 Italia is leased for GBP45,360 (including VAT).
  • The employer pays corporation tax at the marginal rate of 27.5% (the fact that this may be different for the five day period 1 April 2012 to 5 April 2012 will be ignored).
  • The director pays income tax at the additional rate of 50%.
  • Employee's NIC is 2% and employer's NIC is 13.8%.

If not provided with a company car, the director will save income tax of GBP30,100 (as per previous calculation). The additional net of tax remuneration needed is GBP15,260 (GBP45,360 - GBP30,100), so the gross remuneration required will be GBP31,792 (GBP15,260 x 100/(100 - (50 + 2))).

The employer will pay NIC of GBP4,387 (GBP31,792 at 13.8%), so the total net of tax cost for the employer is GBP26,230 (GBP31,792 + GBP4,387 = GBP36,179 less corporation tax relief at 27.5%).

If the employer had leased the company car then they would have paid leasing costs of GBP41,580 (GBP45,360 less the 50% VAT recovery) and class 1A NIC of GBP8,308 (as per previous calculation). Only GBP35,343 of the leasing costs receive tax relief, so the total net of tax cost for the employer is GBP37,884 (GBP41,580 + GBP8,308 = GBP49,888 less corporation tax relief of GBP12,004 (GBP35,343 + GBP8,308 = GBP43,651 at 27.5%)).

It is therefore more beneficial to pay additional remuneration in this instance.

Conclusion

The constantly changing tax rules make it very difficult to plan ahead when choosing a new company luxury car, or even whether to have a company car at all. Although some changes are announced a year or two in advance, it now appears that the additional rate of 50% will only be temporary, but as yet no fixed date has been given for its abolishment.

Last updated: 1 Oct 2014