Are you considering a salary sacrifice car but unsure if it’s the right choice for you? With promises of tax savings and a brand-new car, it’s easy to see why this option might be tempting. But is it really worth it?
In this article, we’ll objectively examine the salary sacrifice car scheme, explore its pros and cons, and help you decide whether it’s a smart financial move for you.
How does the salary sacrifice car scheme work?
A salary sacrifice car scheme allows employees to exchange a portion of their gross salary in return for leasing a car. This reduces their taxable income and the amount of tax they pay, including income tax and National Insurance.
The monthly amount of lease payments typically includes all running costs such as insurance, maintenance, and repairs. The lease agreement usually runs for two to four years, with a fixed monthly payment. Early termination may result in penalties, including when changing jobs.
Salary sacrifice car schemes are typically offered by medium to large employers across various sectors, such as corporations, public sector organisations (including the NHS car scheme), and educational institutions.
Like other salary sacrifice benefits, participating in this scheme requires you to pay Benefit in Kind (BiK) tax. The amount of company car tax is determined by the vehicle’s value, its CO2 emissions, and your personal tax bracket.
BiK rates vary from 2% to 37%, with electric vehicles (EVs) currently enjoying a 2% rate. In contrast, the most polluting vehicles fall into the higher percentage ranges. Finally, hybrid cars tend to fall somewhere in the middle with a BiK rate rate of 2%-14%.
Who is eligible?
Typically, the main requirement is that your salary remains above the national minimum wage after the salary sacrifice deduction. Employers may also set additional conditions, such as the length of employment or contract type. It’s essential to check your company’s specific rules and the terms set by salary sacrifice providers before signing up for the scheme.
What's the difference between salary sacrifice and a company car?
The main difference between salary sacrifice and a company car lies in ownership and financial implications.
In a salary sacrifice arrangement, you lease a car by giving up part of your pre-tax salary, reducing your taxable income. The car is typically owned by a leasing company, and you’re responsible for any excess charges or costs.
In contrast, a company car is owned by the employer, and employees are provided with a vehicle for work-related purposes. Both schemes involve tax considerations that can vary depending on the vehicle type and emissions.
What are the benefits of the salary sacrifice car scheme?
- Tax efficiency: Lease payments are taken from your pre-tax salary. This reduces your taxable income and potentially lowers income tax and National Insurance contributions. This can result in significant savings, especially for higher earners.
- Access to new cars: It enables you to drive a new, fully-maintained car without the upfront costs of buying or credit check requirements.
- All-inclusive fixed fee: The car scheme provides predictable monthly car payments that cover all key running costs such as insurance, road tax, breakdown cover, and servicing. This means you don’t have to worry about unexpected expenses that can arise from owning a car.
- Convenience: The leasing company handles all aspects of the car’s upkeep—insurance, servicing, and repairs—saving you time and stress.
- Eco-friendly options: Choosing an electric car or hybrid can lower the Benefit in Kind (BiK) tax and support environmental goals. Electric car salary sacrifice schemes might appeal to those looking to reduce their carbon footprint.
What are the disadvantages of the salary sacrifice car scheme?
- Reduced take-home pay: While the scheme provides tax savings, it reduces your net salary. If your salary approaches the minimum wage or if you rely on your full pay, this reduction might not be ideal.
- Potential impact on other work benefits: Since your gross income is reduced, it may impact your eligibility for other work benefits, such as bonuses, overtime calculations, pension contributions, or parental leave pay.
- Other financial impacts: A lower pre-tax income could potentially also limit the amount you can borrow, affecting your ability to secure a mortgage or a favourable interest rate.
- Inflexibility: You are tied to the car for the duration of the lease, typically 2-4 years. If your personal or financial situation changes, such as a job loss or relocation, exiting the scheme early can lead to costly penalties.
- Potential extra costs: Although insurance and maintenance are covered, you’re still responsible for fuel costs and any charges for damage or excess mileage.
Salary sacrifice car examples
Higher income earner example:
Salary: £80,000
Car: Electric vehicle with a lease cost of £500/month
BiK rate: 2% (EV). (The Benefit in Kind tax for electric vehicles is currently set at 2% until 2025. It will increase by 1 percentage point each year until it reaches 5% in 2028.)
For the first £12,570 of income, no tax is paid due to the tax-free allowance. The next £37,700 (up to £50,270) is taxed at 20%, and the remaining £29,730 is taxed at 40%. The salary sacrifice of £6,000 saves £1,200 at 20% and £960 at 40%, totaling £2,160 saved in income tax. National Insurance savings add another £720. The BiK tax on the car is £240 annually.
Net savings: £2,640/year.
Lower income earner example:
Salary: £35,000
Car: Petrol vehicle with a lease cost of £300/month
BiK rate: 25% (Conventional petrol or diesel cars have BiK of 25% or more.)
The employee sacrifices £3,600 annually. After the tax-free allowance of £12,570, £22,430 is taxed at 20%. The tax savings on the salary sacrifice would be £720 in income tax and £432 in National Insurance, totalling £1,152 in savings. The BiK tax would be £1,080 annually (25% of the car’s value).
Net savings: £72/year.
Note: These are simplified calculations and don’t account for other deductions like student loan repayments or pension contributions. The final savings will vary based on individual circumstances.
Is the salary sacrifice car scheme worth it?
Determining whether a salary sacrifice car scheme is worth it for you depends on various personal and financial factors. While this scheme offers potential savings and benefits, it may not be suitable for everyone. Understanding who stands to gain from this arrangement and who might face drawbacks can help you make an informed decision.
Who the salary sacrifice car scheme might be good for:
- Higher earners (those in the 40% or 45% tax bracket) seeking tax savings.
- Employees considering electric vehicles (EVs) or hybrid cards for lower Benefit in Kind (BiK) tax rates.
- Individuals without access to affordable financing options for buying a car that fits their needs (such as a family car).
Who the salary sacrifice car scheme might not be good for:
- Lower earners who may be negatively impacted by reduced take-home pay.
- Employees with significant personal tax allowances.
- Those needing the flexibility to change vehicles or exit the scheme early.
- Individuals with upcoming financial commitments that could affect their financial profile, such as getting a mortgage.
- Those looking to use the scheme to acquire a car beyond their means.
Conclusion
The salary sacrifice car scheme can be an excellent employee benefit for those looking to acquire a new vehicle while potentially enjoying substantial tax advantages. By exchanging a portion of your salary, you can lower your taxable income, resulting in reduced income tax and National Insurance contributions.
This scheme is particularly advantageous for higher-rate taxpayers and those opting for electric or ultra-low emission vehicles. However, it’s crucial to consider various factors, including financial implications and how the scheme aligns with your overall financial goals.
Understanding all your car ownership and leasing options is a great starting point. Exploring opportunities through an appointed representative can help you find the best deal tailored to your needs.
