The best ways to pay for your fleet vehicles
Zenith takes a look at the various funding methods available to fleet operators today, addressing the key issues
1. For what type of organisation does it make financial sense to outright purchase vehicles?
Historically cash-rich organisations, companies with low VAT recovery and organisations with small fleet requirements would outright purchase vehicles.
However, we have started to see more of this type of organisation recognising the benefits of moving to a leased arrangement. Benefits include; 50% VAT recovery for cars with private use under contract hire, cost-efficiencies gained through fully outsourcing fleet administration and the ability to free-up capital to invest in business expansion in a growing economy.
Some organisations might outright purchase vehicles to ensure that they appear as assets on their balance sheet. However, contract purchasing vehicles provides a suitable alternative to this while still benefitting from the expertise of a leasing provider. From 2019, lease accounting standard changes will bring leasing on to the balance sheet, with the exception of employee car ownership.
2. What are the benefits of finance leasing?
During a finance lease agreement, organisations take the risk and reward on disposal of the vehicle and have greater end-of-term options. At the end of the primary payment period the lessee can choose to continue the lease for a dramatically reduced fee. If they choose not to take this option, the vehicle is returned to the leasing company and sold to a third party with the lessee benefitting from any profit on the sale proceeds or taking the risk on any loss. The lessee will receive the same in-life benefits as with contract hire where they can recover 50% of the VAT on lessee payments and treat the rental as an expense qualifying for corporation tax relief.
Finance leases account for a small proportion of leased arrangements as organisations look to manage fleet through a risk-free solution.
3. What are the advantages of contract hire?
Contract hire remains one of the most popular funding methods for vehicles due to the low-risk element for the company leasing and the financial and taxation benefits received. Organisations are attracted to the fact that they can simply hand the vehicle back at the end of the contract term, which removes the concern of any risk. Benefits include the ability to reclaim 50% of the VAT on the lease for cars with private use and the rental can be treated as an expense qualifying for corporation tax relief. There are also added cash-flow benefits as companies are not required to invest any funds by making an initial cash outlay to purchase the vehicle outright.
A hassle-free package is typically included in this form of lease arrangement including maintenance, servicing, accident management, disposal and much more, which reduces the administration burden allowing organisations to concentrate on core business activity. Contract hire is also unique in that organisations have the flexibility to change the contract mileage and duration in-life as the usage of each vehicle changes.
Contract hire forms the basis of the salary sacrifice arrangement due to the risk-free nature of the product, contributing to the growth of this funding type.
4. How common is it for fleets to use different funding mechanisms for different types of vehicle?
Historically we have seen organisations use one funding method for all vehicle types or occasionally a different one for LCVs. This is no longer the case as we are now seeing customers truly understand that the key to maximising cost savings lies in utilising a variety of funding methods.
Forward-thinking leasing providers have heavily invested in system developments that compare the costs of funding for each and every quote. This provides an easy solution for organisations to benefit from using the most cost-effective funding methods for every vehicle on the road. We are seeing a shift towards the funding method being defined by vehicle need rather than vehicle type, with more fleets considering a blended funding arrangement. One of the most common blending funding options for cars encompasses contract hire and employee car ownership.
5. What difference does it make to funding decisions if a vehicle has a hybrid or electric powertrain?
Under all funding scenarios there are financial incentives to use hybrid or electric vehicles (EVs), such as lower company car tax, EV grants and lower van scale charges where the emissions are zero. There are additional corporation tax incentives to keep fleet emissions below 130g/km (110g/km from 2018) lowering corporation tax costs for those who have a purchase arrangement or reducing lease costs for those who contract hire.
Currently, businesses that purchase vehicles below 75g/km can benefit from 100% writing-down allowances in year one, resulting in increased corporation tax relief. However, this is reducing to 50g/km from 2018 so it will become more expensive for those who outright purchase or contract purchase ultra-low emission cars in this CO2 bracket from this date.
As the popularity of alternatively- fuelled vehicles increases, leasing providers have more information about the second hand market and in-life maintenance costs. As such, leasing providers are able to price alternatively-fuelled vehicles more competitively through improved fixed cost maintenance budgets and the ability to utilise resale channels to achieve strong sales proceeds. This makes leasing more attractive from an end-user perspective.
6. How will the new accounting treatment of contract hire, which will see leased vehicles, appear on balance sheets, affect fleet funding decisions?
The new leasing accounting standard IFRS 16 changes the way that leases are reported on company accounts, which will have a specific impact on operating leases such as contract hire. These will now appear on the lessee’s balance sheet.
Generally with motor vehicles, these leasing commitments don’t have a significant impact on a company’s financial position because vehicles tend to be quite small, even for an organisation with a large fleet, when compared to items such as property, ships and planes. Most organisations will continue to fund effectively through contract hire, which still gives a preferable VAT position and offers a fully outsourced funding solution.
7. What profile of fleet best suits an employee car ownership scheme?
Employee car ownership funding is traditionally talked about as being suitable for fleets where a large portion of the workforce are high mileage drivers or higher rate tax payers. In recent years, however, the mileage threshold to make this scheme tax efficient has dropped significantly. This is due to organisations receiving increased driver contributions which are based on benefit-in-kind (BiK) tax costs but are made to the employer instead of to HMRC. This means fewer business miles are required to make this a tax-efficient scheme.
Adopting a blended funding method where employee car ownership might be suitable for 40% of drivers within a business, but not for the other 60% further increases the attractiveness of these schemes and makes them suitable for fleets with varying profiles of driver.
8. What criteria should an employer consider before introducing a salary sacrifice car scheme? How significant was the Chancellor’s decision to monitor salary sacrifice schemes, announced in the 2016 budget?
Salary sacrifice car schemes work for a wide range of companies although we would strongly suggest that employers assess a few factors before they look to launch a scheme. To make sure schemes are financially attractive to employees in light of increases in company car tax, employers should consider introducing a CO2 cap – typically around 120g/km.
Other considerations such as the size of the eligible employee population, employee turnover and unpaid leave should all be taken into account, although they can be mitigated through risk solutions.
Although we understand that the Chancellor didn’t implicitly mention cars in his list of salary sacrifice benefits to keep, we are confident in its future security thanks to the revenues created by VAT and BiK tax and the low emission nature of the cars available.