These days company cars with relatively low CO2 emissions are subject to the maximum tax charge. If your next company car falls into this tax bracket how can a loan from your business lower the tax cost?

Company car tax

As you probably know, the amount on which you’ll be taxed for having a company car as a perk depends on the manufacturer’s list price and its CO2 emissions. The more expensive the car and the higher its emissions, the larger the tax and NI bill. Ironically it’s at the higher end of the scale that a simple tax-saving scheme works best. The following examples show how.

Example – no scheme. Bill is a director of Acom and for 2020/21 has use of a company car with a list price of £30,000. The taxable amount is 35% of the list price, i.e. £10,500. Because Bill is a higher rate taxpayer he’ll pay £4,200 (£10,500 x 40%) in tax. Acom has to pay Class 1A NI of £1,863 (£10,500 x 13.8%). This means that, ignoring any increases in the taxable amount, over three years the total tax and NI cost is £18,169 ((£4,200 + £1,863) x 3).

Capital contribution

The taxable amount can be reduced where the director or employee contributes to the cost of a car. The contribution is knocked off the list price before applying the percentage charge according to the CO2 emissions. The maximum contribution that can reduce the tax charge is £5,000.

Example – with contribution. Taking the facts from the example above, but assuming a contribution to the cost of the car of £5,000, the tax and NI costs are reduced over three years by £2,825 (£5,000 x 35% x (40% + 13.8%) x 3 years). The trouble is Bill will have to find £5,000 to contribute, and if the car depreciates by, say, 50% over the three years he has use of it, his contribution will depreciate by the same proportion. That means he’ll only get £2,500 of his contribution back. Most of the tax saving (£2,825) is wiped out.

Tip. Acom can improve the position by lending Bill £5,000 to make the contribution. After three years it keeps the £2,500 contribution that otherwise would be repayable to Bill to cover part of the money it lent him. It also writes off the remainder of the loan. While the write off is taxable, the overall position is a tax and NI saving.

Example – with contribution and loan. Assuming the same facts as the previous example, but Acom lends Bill £5,000 to make the capital contribution and writes off the balance of the loan after three years. The revised tax and NI position is: savings achieved from the contribution £2,825 (see above); less the tax and NI payable on the £2,500 loan written off, i.e. tax at 40%, Bill’s NI at 2% and Acom’s at 13.8%, giving £1,395 and leaving net savings achieved by Bill and Acom together of £1,430 (£2,825 – £1,395).

Other factors

Because Bill is a director Acom will have to pay a temporary tax charge of 32.5% on the £5,000 loan until it’s repaid or written off. This means it will be out of pocket by £1,625 for three years. This is unlikely to make a significant dent in the tax and NI savings made. The scheme works for high list price/CO2 emission cars, but might not at the other end of the scale. So crunch the numbers before going ahead.

This article has been reproduced by kind permission of Indicator – FL Memo Ltd. For details of their tax-saving products please visit www.indicator-flm.co.uk or call 01233 653500.