Until 1995 most companies opted to purchase company cars. The
radical changes to VAT rules relating to leased vehicles introduced
at that time triggered an exodus into leasing. However, the VAT
recovery advantage is balanced against the Expensive Car Leasing
Disallowance (ECLD), a restriction on the amount of tax relief that
can be obtained on rentals for cars with a retail price exceeding
£12,000.
It has been widely believed since 1995 that the tipping point
for where purchasing becomes more favourable than leasing is when
the price of a car exceeds approximately £20,000, for an ordinary
trading company. This may be the case for deferred purchase, but
not necessarily so for outright purchase.
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Outright purchase is like borrowing from company funds; there is
a borrowing rate, a cost of funds associated with it. Leasing is
effectively borrowing from a third party. When we choose a mortgage
the aim is to go for the cheapest rate, which is exactly what
happens here.
Our fleet modelling software shows that the higher the company’s
cost of funds (the greater the return on each pound invested in the
business) the more likely it is that leasing is a more cost
effective option than outright purchase, outweighing the
disadvantage of the ECLD. The tipping point is actually a cost of
funds rate rather than a price of car and this is different for
each company.
The 2008 Budget announced fundamental changes to the way
corporation tax relief will be claimed for the depreciation of cars
(capital allowances) depending on CO2 emission levels, with 110g/km
and 160g/km becoming the key levels. Also from 2009, the ECLD will
be scrapped to be replaced by a new flat rate leasing disallowance
of 15 per cent affecting only those cars emitting 161g/km and
above. So how are these changes likely to impact on the lease or
buy decision?
Impact of capital allowance changes
A company’s costs are likely to be affected whether it buys or
leases cars. Lessors, who buy cars to lease on, may look to pass
those additional costs on in higher rentals. Therefore, the cost of
ignoring these changes could be substantial.
The removal of the £3,000 per annum cap on capital allowances
has an interesting effect. For a car priced at £30,000 in the 20
per cent pool (111-160g/km), the first year capital allowance will
be £6,000, double what it is currently. In the second year it will
be £4,800, again higher than currently. The company would probably
recover less relief over the car’s life on the fleet, but it
recovers a higher amount sooner.
In the context of a mortgage, this is similar to paying large
chunks off early, reducing the total amount of interest to pay and
reducing the cost of the loan overall. In tandem to that, the
removal of the rental disallowance currently based on price could
potentially lead to efficient, high residual, high value cars
costing less going forwards than they do now.
Similarly, a car priced at £50,000 in the 10 per cent pool (over
160g/km) will have a first year capital allowance of £5,000 and
£4,500 in the second year, a less significant cash flow advantage
to those cars above, but still useful. In addition, these high-end
value cars, which currently have a large rental restriction based
on price, will have only a flat rate of 15 per cent going forwards.
The demise of these cars from fleet has been widely predicted, but
it may not necessarily be so.
Cheaper cars in the 10 per cent pool could suffer from both the
capital allowances deferral effect, manifested in increased
rentals, and the fact that where currently there may not be much of
a rental restriction because of their low price, there would be the
flat rate of 15 per cent. These cars may become unattractive to the
fleet market, which is presumably the intention.
The abolition of a rental disallowance for cars emitting
sub-161g/km means most companies will be better off leasing these
cars. For any car emitting over 160g/km, it is likely that leasing
is again the most cost-effective method, unless the company has a
very low cost of funds.
Until leasing companies release their post-April 2009 pricing,
and residual values settle down in these uncertain times, it is
difficult to predict for certain, but from a purely financial
standpoint it looks as if leasing could become the dominant method
of funding for most cars.
We always advise companies to include all funding costs in the
whole life cost calculations, using discounted cash flow techniques
to calculate the true after tax cost of the car. The way to a
perfect fleet is certainly not about finding the cheapest prices on
the internet.
The author is a business car consultant at Deloitte &
Touche LLP
