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Tolley's Practical Tax by Sarah Deeks LLB FCA

Sarah Deeks takes a fresh look at a subject close to clients' hearts.This article was originally published in Tolley’s Practical Tax, LexisNexis Butterworths leading information service for small to medium sized tax and accountancy practices. It provides the day-to-day information needed to deal with all tax compliance issues and general client problems. For more information or to order this title please visit: http://www.lexisnexis.co.uk/campaigns/taxation/index.html

Motoring is once again back in the tax spotlight with the publication of Regulations increasing the benefit in kind charge for some employees driving environmentally friendly cars from 6 April 2006. As fuel prices reach almost £1 a litre, resentment over the high percentage of fuel duty in the UK is simmering. Choosing wisely when purchasing a business vehicle to take advantage of the tax breaks available can help to off-set these increased costs.

Case study

Rosa is a self-employed florist with two members of staff. During a meeting with her accountant she seeks advice on the most cost-effective way to purchase a new car. She also raises two other vehicle related issues:

• Gavin, her bridal flower arranger has just passed his driving test and has requested a company car. Rosa is unsure whether he will be able to afford the tax due on the benefit in kind.

• Sinead, her delivery girl, drives the firm’s van which she takes home each night. Rosa is aware that the rules on vans have changed recently and wants to make sure that neither she nor Sinead incur any unexpected tax charges.

Rosa’s car

Rosa works in London and requires a compact car to visit sites and clients. She has thought about buying a Mini, small Mercedes-Benz or Peugeot.

A new car with CO2 emissions of less than 120gm/km (or an electric car) qualifies for significant tax savings. Instead of the capital allowance being 25% of the purchase price subject to a maximum claim of £3,000 (£12,000 x 25%), a first year allowance of 100% of the cost of the car (subject to any restriction for private use) can be deducted from the business profits. The 100% allowance applies to all cars which are registered before 31 March 2008, irrespective of the size of the business and even if leased (CAA 2001 s 45D).



Table 1 shows Rosa that the capital allowances (CAs) in the year of purchase vary significantly depending on the car’s green credentials. Small Vehicle Excise Duty (VED) savings can also be made. Rosa is a higher rate taxpayer and uses her car 75% of the time for work. Buying a Peugeot 1007 rather than a Mini will save tax and Class 4 National Insurance of £2,537 in the year of purchase (total saving £3,383). If she buys a Mercedes A160 rather than A150 she will save £3,536 (total saving £4,459).

Both greener options are diesel cars. Diesel, at the time of writing, is usually more expensive than petrol but whilst the cost of driving 12,000 miles in the petrol vehicles is roughly £1,000-£1,050, the cost of driving the same mileage in the diesel cars is approximately £715-£730 because of their greater fuel efficiency. If Rosa does not want to drive a diesel car, there are petrol alternatives which qualify for 100% capital allowances and reduced VED but the choice is limited. She could, for example, consider purchasing a Peugeot 107, Smart car or Citroen C1.

A full list of cars by make and model can be searched according to VED band, fuel economy, company car tax percentage and alternative fuel type on www.vcacarfueldata.org.uk.

Gavin’s car

The same considerations also apply to the choice of company car for Gavin. Purchasing a second car qualifying for 100% capital allowances would give Rosa a further significant reduction in her tax bill in the year of purchase. This may help her to finance this perk for her key employee.

Car scale charge

Gavin is taxed on a percentage of the car’s price, graduated according to the level of its carbon dioxide emissions in the range 15-35% for petrol cars; 18-35% for diesel cars. See Table 2. A car with CO2 emissions below 140g/km attracts the lowest charge but as Table 2 illustrates, the 3% supplement for diesel cars makes the ones illustrated no more attractive than similar petrol vehicles. Rosa as Gavin’s employer has an interest in keeping the scale charge as low as possible as she is liable to Class 1A National Insurance on the benefit in kind.



Neither of the diesel cars (See Table 2) meets Euro Standard IV and therefore qualifies for the 3% diesel surcharge waiver. The waiver does, however, apply to a number of other cars, for example, the Audi A2 1.4TDI and Vauxhall Corsa 1.3CTDI both of which come within the 15% band in spite of being diesel cars.

Choice of car

From 6 April 2006, for diesel cars registered on or after 1 January 2006, the 3% supplement waiver no longer applies to cars meeting Euro Standard IV (SI 2209/2005). Rosa may wish to purchase Gavin’s car before that date, if the diesel waiver applies. An early purchase may also be required if she opts for a car that runs on alternative fuel (gas, electricity or hybrid). These cars are eligible for a discount on the scale charge. From 6 April 2006 the discounts will be simplified and in some cases this will result in a higher benefit in kind charge.

Automatic cars are usually a more expensive option. For example, a manual diesel Mercedes A160 has a scale charge of £2,610; an automatic diesel £2,755 and an automatic petrol model £3,335. If Gavin was only able to drive an automatic car because of a disability (and he holds a disabled person’s badge) the emissions figure for the manual equivalent car would be applied in calculating the scale charge (ITEPA 2003 s 138). Rosa and Gavin could consider a car registered before 1 January 1998 or a classic car. These are not necessarily environmentally friendly and
are probably more costly to maintain but may give Gavin a lower scale charge. For example, a car with a notional list price when first registered of £11,000 and an engine size of 1400 cc or less
attracts a scale charge of £1,650 (£11,000 x 15%) at a tax cost of £363 a year for a basic rate taxpayer (ITEPA 2003 s 142). A classic car is a vehicle which is 15 or more years old at the end of the year of assessment with a market value of £15,000 or more (ITEPA 2003 s 147). For such cars market value (if greater) must be substituted for the notional list price.

Additional accessories add to the cost and tax charge. The list price of the car includes delivery, VAT and standard accessories but any initial extra accessories are added on top of the list price (although not to a notional list price for a pre-1 January 1998 car). Accessories added at a later date and worth more than £100 also increase the scale charge (ITEPA 2003 ss 126-127). Those added during the course of a tax year attract a benefit in kind charge for the whole year with no time-apportionment. Accessories necessary for the employment, mobile phones, equipment to enable a disabled person to use the car and some replacement items escape a benefit in kind charge (ITEPA 2003 s 125, s 131).

Capital contribution

Gavin can reduce the scale charge by making a capital contribution towards the cost of the car of up to £5,000 (ITEPA 2003 s 132). Rosa could help him to finance the capital contribution by providing him with a matching taxfree cheap employee loan (ITEPA 2003 s 180).

Gavin’s capital contribution will be deducted from the list price, so in the case of the Peugeot 1007, the benefit in kind charge would be reduced to £1,080 (£11,000 - £5,000 x 18%) at a tax cost to Gavin of £237.60 a year.

The £198 tax saving applies for each year that Gavin drives the car but the reduction is not passed onto any subsequent member of staff who later uses the vehicle.

Paying for private use

The scale charge can also be reduced (down to nil if applicable) if Rosa contractually obliges Gavin to contribute to the cost of his private use of the car and he actually does so (ITEPA 2003 s 144). The agreed contribution is deducted from the scale charge.

Purchasing own car

The modest tax charges outlined above for small energy-efficient cars probably does no t make it worthwhile for Gavin to purchase his own car and claim reimbursement of his business mileage from his employer but there is no substitute for making the comparative calculations in each case.

If Gavin drove 12,000 business miles a year, Rosa could reimburse him 40p per mile for the first 10,000 miles and 25p per mile for the next 2,000 miles, tax-free under the authorised mileage scheme. He would therefore receive £4,500 a year with which to purchase and run a car. Should Gavin decide to buy his own car Rosa could give him a cheap employee loan to assist with its finance.

Private fuel

Finally, the issue of private fuel should be considered. Whether this is a worthwhile benefit in kind depends on how many private miles Gavin drives. Assuming that he opts for the Peugeot 1007, the fuel scale charge would be £2,592 (£14,400 x 18%) at a tax cost of £570.24.

Gavin would have to drive approximately 9,500 private miles a year to break-even (3,500 more than the usual average of 6,000 miles per annum). Rosa would incur a Class 1 National Insurance charge on the scale charge at 12.8%.

One of the most difficult aspects of vehicle management for a small business is to ensure that it does not inadvertently pay for an employee’s private fuel thereby triggering a tax charge. To avoid this, irrespective of whether Gavin has the benefit of private fuel, either Rosa should pay for all the fuel with Gavin reimbursing his private mileage at the stipulated rate (9 pence per mile for a diesel car with an engine size below 2,000cc), or Gavin should pay for his own fuel and reclaim his business mileage. Either way, Gavin will need to keep a record of his business mileage.

Sinead’s van

Rosa lets Sinead take the van home each night because she has to travel to Covent Garden flower market early each morning. From 6 April 2005 a benefit in kind charge arises if Sinead takes the van home and it is available for her to use privately (for example, to visit friends). If, however, Rosa restricts Sinead’s private use of the vehicle no benefit in kind (or Class 1A National Insurance) charge arises. It is then irrelevant that Sinead uses the van for commuting between home and work (and vice versa) because she drives the van mainly to transport flowers for her employer (ITEPA 2003 s 155). Although the current scale charge for a van is not significant (£500 if it is under four years old at a tax cost to a basic rate taxpayer of £110 a year), from 6 April 2007 the scale charge will rise to £3,000 (a tax cost of £660). Rosa should make it a condition of Sinead’s employment that whilst she can use the van for ordinary commuting, no other private use is permitted by her (or her family) unless she pays for it (ITEPA 2003 s 158). This should be effective as long as Sinead does not actually use the van privately, or if she does she pays for it.

HMRC is likely to accept that Sinead’s van is only used for ordinary commuting if she has the use of an alternative vehicle for private journeys, for example, her boyfriend’s car. If Sinead has no other access to a vehicle, HMRC may question the private use. ‘Insignificant’ use is permitted without triggering a scale charge (for example, using the van in an emergency or for an occasional short journey).

Rosa should ensure that her arrangements for fuelling the van do not trigger a scale charge of £500 from 6 April 2007. This will apply unless Sinead is required to pay for her private fuel in full and actually does so (ITEPA 2003 ss 160- 162).

Final thoughts

Whilst large companies are able to adopt a coherent fleet management policy, small businesses tend to make adhoc decisions about vehicle purchases and they are often bought without consideration of the tax implications. Tax is, however, only part of the decision and the commercial realities of depreciation and financing must also be taken into account.

NOVEMBER 2005

SARAH DEEKS LLB FCA
Freelance writer