Company car or car allowance?

If you’re being offered the choice between a company car or car allowance but you’re struggling to decide which to go for, this guide will help you to work out which option is best for you.

Since the government changed its tax stance on car allowance and company car schemes, employees are having to do the sums to work out which option makes better financial sense.

But while both a company car and a cash allowance involve paying tax, how much you earn, what type of vehicle you’re being offered, and where you live in the UK, can all impact how much of your salary you have to part ways with each month.

Before we explain how to calculate which scheme works out better financially for you, lets first have a look at the key differences between a company car or car allowance.

Company car

Choosing to take a company car over a company car allowance means you’ll sacrifice a proportion of your gross salary each month in exchange for a new car that you can use for personal and business journeys.

Because the salary deduction is taken before tax, your contribution won’t be subject to income tax or national insurance, so you’ll effectively get to keep more of your income. This is what is known as BIK or benefit in kind.

Although you’re making monthly payments for the car, you are effectively leasing it from your employer. You’ll never actually own the car and won’t be able to sell it, but you’ll also be free from any depreciation costs. Should you leave your job you’ll simply give the car back and your repayments will stop.

Benefits of a company car:

• You get a brand new car without the upfront costs
• The car’s maintenance and depreciation aren’t your responsibility
• You won’t have to pay tax or national insurance on your salary sacrifice
• You may get a better car than you could afford by buying on the open market
• Your insurance is covered by your employer
• You don’t have to pay a deposit or undergo a credit check

Cons of a company car:

• You don’t own the car and you’ll have to return it if you leave your job
• You’ll be liable for benefit in kind tax (and possibly tax on your fuel allowance)

Company car allowance

Opting to take a car allowance over a company car means your employer will pay a lump sum into your salary that you can put towards purchasing a new or secondhand car directly on the open market.

Unlike with a company car scheme, this cash sum would be classed as a cash benefit and would be subject to income tax and national insurance.

You’ll be able to purchase whichever vehicle you like and it will be yours to keep and sell on, even if you leave your job. The flip side however is that getting the car insured and any ongoing maintenance is also your responsibility.

Benefits of company car allowance:

• The car is yours to keep even if you leave your job
• You can purchase whichever vehicle you like
• You are investing in an asset you can sell at a later date

Cons of company car allowance:

• You’ll pay national insurance and income tax on the gross sum
• You are responsible for the car’s depreciation, tax, insurance, and MOT

Company car or car allowance - which works out cheaper?

As we said before, both company car and company car allowance are subject to tax. Quite how much you’ll pay, however, can differ depending on your personal circumstances.

How to calculate company car allowance tax:

If you’re a basic rate tax payer in England, you’ll only have to pay 20% tax on a car allowance payment, versus 21% in Scotland. If you’re in the higher tax band, this rises to 40%. In both instances your car allowance will also be subject to NI.

If you do opt to take the company car allowance over a company car, it’s also worth bearing in mind the additional costs you’ll be taking on each year too. These include tax, MOT and insurance. You’ll also be liable for any repairs or maintenance your car needs.

How to calculate company car tax:

If you’re opting for a company car you won’t pay any personal income tax or NI on the salary sacrifice you make, but you will have to pay BIK tax.

BIK tax is calculated by a vehicle’s value, its CO2 emissions, and your personal tax band.

This means an electric vehicle, which falls into the lowest emission category, can work out more cost effective than a diesel one.

To calculate how much tax you’ll pay for a company, use this formula:

P11D value of the car x its CO2 tax band x your tax band (20% for basic tax payers in England).

This will give you an annual total. To work out how much you’ll pay per month, simply divide this by 12 (the number of months in a year).

A final word on company car or car allowance

In 2021, the government closed a tax loophole in the company car scheme that prevents employees from simply taking the option that results in paying less tax.

So, while the sums we’ve outlined in this guide will help you to calculate the tax owed in each case, ultimately you’ll have to pay whichever amount works out higher, irrespective of if you choose a company car or a car allowance.

Remember, you can still save money if you opt for a company car that has low emissions and you’re a lower band tax payer. With that in mind, we highly recommended crunching the numbers and taking all other costs into account before making a decision on whether a company car or car allowance is right for you.