Contractors' Questions: What's the best way to buy a car for contracting?

Contractor’s Question: Do the April 2017 changes to the Flat Rate VAT Scheme affect the consensus that purchasing a car for business personally and claiming HMRC’s mileage allowance rates is the least taxing route? My annual mileage varies from 5,000 to 25,000.

I have the funds in my limited company to buy the vehicle outright (£30-35k), or I could lease it personally or via my ‘Ltd’. I’ll take whichever avenue is the most financially-sound please.

Expert’s Answer: To answer what may seem like a simple question is deceptively complex as the decision between owning a car personally or through a limited company involves three different tax regimes – (i) employment tax; (ii) corporation tax; and (iii) VAT.

Firstly, let’s consider personal ownership of the car. For employment tax purposes, you are able to claim a tax-free reimbursement of 45p per mile for the first 10,000 miles and 25p per mile for additional miles above this limit. By driving 25,000 miles per year, this would entitle you to be paid £8,250 a year, towards your petrol costs and running costs of the car.

The payment by the company to you is corporation tax deductible so your company will get relief at a rate of 20% but reducing to 19% from 1st April 2017 so, using the current rate, the cost of the company making this payment to you is £6,600 (i.e. £8,250 less tax relief at 20%)

For VAT purposes, the company can recover the VAT on the petrol element of the 45p it pays you. This ranges from 11p to 21p depending on the engine size of the car you drive. Assuming you are somewhere in the middle, the rate is 14p so, for every mile driven, the company can recover VAT of 2.33p or, assuming you are paid £8,250 per year, the VAT recovery would be £583.33. You would need to provide VAT invoices for the petrol to the company to justify the VAT recovery.

Alternatively, what if the company owns or leases the car and makes it available to you to drive business and private mileage?  For employment tax purposes, you will suffer a benefit in kind. This deems you to be receiving an amount of income each year which is a proportion of the list price of the car. The applicable proportion is based on the CO2 emissions of the car and this ranges from 7% to 37%. Assuming that you are somewhere in the middle, say 24%, and the list price is £32,000, you will be deemed to have income each year of £7,680. As a 40% taxpayer, you this would cost you just over £3,000 a year.

The company would have to pay employer’s National Insurance (NI) on the deemed income so this is another 13.8% or £1,060 each year using the numbers above. All of this assumes that the company does not reimburse private fuel -- if it does, the charges above get a lot worse.

For corporation tax purposes, the company will be able to claim corporation tax relief for the cost of the petrol and also the employer’s NI it pays in relation to your deemed income. There is also corporation tax relief to be claimed for either the cost of the lease restricted for higher emission cars or, if the car is purchased, under the capital allowance regime which allows the company to deduct the cost of the car at a rate of 8% per annum on a reducing balance basis (or at a much faster rate for low emissions cars).

For VAT purposes, the company can recover the entire VAT on the petrol cost. If the car is purchased, there is no VAT recovery on the cost of the car but if the car is leased then 50% of the VAT can be recovered on the leasing element of the charge and 100% of the VAT on any maintenance element in the leasing charge.

So can any conclusions be drawn from this? Not really, as the numbers need to be crunched in each case but, as a rule of thumb, it makes the most sense to buy or lease a car in the name of the company if it is a low emissions car -- the employment tax benefit in kind that arises each year from normal or high emission cars will outweigh the benefit of any VAT recovery on the lease payments. In your case, I would expect that the high mileage you are driving, which gives you £8,250 per year tax-free, will make personal ownership or leasing the way to go.

The expert was Andrew Constable, tax partner at chartered accountancy firm Kingston Smith LLP.

Editor’s Note: Related –

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Tuesday 31st January 2017