Tax and national insurance breaks are the driving force behind take-up of salary sacrifice car schemes
Salary sacrifice is a matter of employment law, not tax law, in that it will result in a change in employees’ terms and conditions because they must give up their contractual right to the cash they have sacrificed (at least for the term of the vehicle lease). Having said that, one of the key attractions of company car salary sacrifice, as with any salary sacrifice, is the tax breaks it brings.
When it comes to car schemes, the tax breaks mainly benefit the employee, but the employer also gains some national insurance benefits. In a nutshell, the employee will save tax and NI on the sum that has been sacrificed. So, instead of paying 20%, 40 or 50% income tax on their gross income, the value of the company car benefit is subject only to benefit-in-kind (BIK) taxation. They also save on the NI they would otherwise have had to pay on that income. For employers, the amount of NI and corporation tax payable is also reduced. Although the employer still has to pay NI on the provision of the car to the employee, this will normally be substantially less than the employer NI that would have been paid on the salary sacrificed.
Lower emissions key to savings
The key to these savings – and, in fact, the main way salary sacrifice stacks up from a tax perspective – is how vehicle tax rates are now graded. Since 2002, tax rates for cars have been split into bands based on their CO2 emissions, in an effort by the government to encourage more people to switch to lower-emission cars. Those driving cars emitting less CO2 now pay much less BIK, which makes the savings derived from salary sacrifice much more attractive.
The banding method may appear complicated, but is actually pretty straightforward. A car is placed in a band depending on its CO2 emissions, which determines the percentage of BIK the driver will pay. The base rate is currently 15%, for cars emitting less than 130g of CO2 per kilometre driven (g/km), rising by 1% in 5g/km increments to a maximum of 35% for high-emitting cars, or those producing 230g/km or above. There is an extra levy for diesel cars.
But that is not all. In 2008, a new 10% band was introduced for cars producing 120g/km and last year cars emitting more than 160g/km were hammered with “writing down” allowance of just 10% compared with 20% below that and 100% (for the first year) for cars emitting less than 110g/km. And as of April this year, employees provided with an electric or non-CO2-emitting car for their private use qualify for a nil rate of income tax, a benefit that will run for five years.
From 2012, the 10% BIK band for sub-120g/km vehicles will be abolished and extended to all cars with emissions of less than 100g/km, with the bands all increased by one percentage point per 5g/km, again to encourage more use of low-emitting vehicles.
Latest tax changes
Two tax changes this April – the introduction of a 50% income tax band for people earning more than £150,000 and the gradual scrapping of the personal income tax allowance for people earning over £100,000 – could also make salary sacrifice more attractive to such high earners if it is seen as a way to push them into a lower tax bracket, says Graham Farquhar, employment tax partner at Ernst and Young.
“Car salary sacrifice schemes can span all sorts of people, from those on lower salaries up to executives,” he explains. “With the 50% tax rule, you might well now, for example, get an executive who might sacrifice some of their salary to go towards a company car and they will then be taxed on less. They can get, say, a £40,000 car and still be better off.”
If you factor in issues around depreciation and the rising cost of running a car privately, plus the growing range of high-performance, low-CO2 cars on the market, and the attractions of sacrificing salary to gain a company car come into much clearer focus.
“You are getting access to a new car in a more tax-efficient way, with good miles per gallon and low emissions,” says Farquhar. “What this means is employers are considering going back into car fleets, whereas four or five years ago, everyone was thinking ‘how do we get out of it?’.”
What are the current tax breaks on cars?
- Employees gain by paying less income tax and NI, and employers gain through reduced NI and corporation tax.
- Key benefits of salary sacrifice accrue through the CO2 emissions-based vehicle tax rates introduced in 2002.
- Vehicles are graded downwards from 35% benefit-in-kind tax, with a 10% rate introduced for low-CO2 cars in 2008 and further changes to encourage greener cars due from 2012.
- Changes to high-end income tax rates this April may make executive-level salary sacrifice more attractive.
- Rising costs of running vehicles privately are another factor.
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