Dan Rees and
Mike Moore examine the growing
trend of companies offering their employees vehicles through a
salary sacrifice scheme from a tax and accounting
perspective.

An interesting nil-cost option for employers to enhance their
employees’ benefits options is to make available low-emission
company cars to the wider work force. The key is to ensure that the
total cost of a fully outsourced vehicle is established for the
business and passed on to the employee who elected to choose the
car.

One of the most efficient ways of passing on the
cost is through salary sacrifice. Such schemes can be very
attractive, particularly as the commercial and tax efficiencies of
the scheme allow employees to access company cars at a considerable
saving to that of acquiring like-for-like cars privately from net
salary.

Whole life cost

So what is the total cost of a car? The
funding method most likely to be used to acquire the cars for this
type of scheme is contract hire, as the cars can be fully
outsourced and residual value risk for the employer removed.

The total cost of the car is the post-tax whole
life cost (WLC) to the employer of leasing the company car, which
includes rental, VAT recovery, maintenance, insurance, Class 1A
National Insurance (NI) and tax relief.

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Fuel expenses, where applicable, are generally
dealt with outside of the arrangement, but true WLC should take
account of the difference in business fuel cost over a certain
number of miles for different engine efficiencies.

Other costs outside those of the basic acquisition
are early terminations and maintaining lease payments during
maternity leave. There are a variety of ways of providing for these
costs, which should be covered by the salary sacrificed.

Salary sacrifice

Having established the WLC, the next
question is how much salary to sacrifice. A salary level calculated
to leave the business making no savings from the arrangement is the
most advantageous position for the employee and is most likely to
get a good take-up.

However, employers may wish to share in the cost
savings and a balance is therefore necessary.

National Insurance and income
tax

Where salary is sacrificed, this is a
straightforward cost saving. In addition, there is a saving of
employer Class 1 NI that would have been due on the gross salary
sacrificed.

However, there is a Class 1A NI charge on the
benefit in kind of the car. For low emission cars, the Class 1A NI
charge on the benefit is generally lower than the Class 1 NI saved
on the salary, resulting in an overall saving. A cash flow
advantage is also generated because Class 1A NI is paid in the July
after the tax year has ended, whereas Class 1 NI would have been
paid every month during the tax year.

From April 2011 a 1 percent addition is made to NI
rates, for both employers and employees. This means the available
savings under salary sacrifice increase for both parties.

A basic-rate taxpayer no longer receives the gross
salary that they have agreed to sacrifice which is a cost to them,
but they will no longer pay tax on that salary at 20 percent, and
Class 1 NIC at 11 percent, which is a saving. Instead, only income
tax at 20 percent is due on the company car benefit, which is a
percentage of the list price according to CO2 emissions.
Low-emission cars are therefore more effective within this
arrangement.

For a higher rate taxpayer, substitute 40 percent
for 20 percent for income tax and 1 percent for 11 percent for NI.
The tax on the car benefit is generally collected through the
employee’s tax code after the benefit is reported.

In principle, a uniform salary sacrifice figure
should be calculated across all the years of the contract. This
means expected changes in benefit-in-kind CO2 bands, NI rates and
tax rates should be included to arrive at a WLC figure over the
retention period.

Accounting

Currently, a business accounts for
contract hire as an expense through the profit and loss account and
it does not appear as an asset on the balance sheet.

However, the International Accounting Standards
Board is due to issue a new lease accounting standard scheduled for
the 2011-12 tax year (see Motor Finance 61, November 2009). It
proposes a new approach, referred to as the “right of use”, which
will mean that assets and liabilities arising under all lease
arrangements are recognised on the balance sheet.

Salary sacrifice arrangements are becoming
increasingly popular with employers as they look to enhance the
reward packages offered to all their employees at no extra cost,
bring the grey fleet into company cars and reduce the CO2 emissions
of their business. Providers and employers need to be aware of the
cost impact of the design of their schemes to ensure they reap the
intended benefits.

Dan Rees is business car consultant,
and Mike Moore is director in global employer services at
Deloitte