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Contract Hire/Leasing Explained

Contract Hire is the main type of vehicle leasing; it is eligible for both business and personal customers. It allows you to hire a vehicle for a set period of time, within a pre agreed mileage allowance for a fixed monthly rental. There is no option to purchase the vehicle and at the end of the agreement as the vehicle is returned to the finance company, subject to a final vehicle condition and mileage check.

The monthly rental is quoted plus VAT for business users and including VAT for personal users.

The monthly rental takes into account the cost of the vehicle, including vehicle registration fees, road fund license, the period of use and agreed mileage, funding costs, and the vehicles anticipated value at the end of the contract.

The mileage allowance chosen will have a big impact on the rental rate because the number of miles a vehicle does has a big implication on both the service requirements and resale value. Understating your mileage allowance can reduce the monthly rental rate for the user, but it can also result in you incurring excess mileage charges at the end of the agreement if you exceed your total agreed allowance.

The choice of vehicle can also have a big impact on the rental rate. Two vehicles can have an almost identical list price, but if one has a much higher anticipated value, meaning less depreciation, this will be reflected in a lower rental rate.

For an additional monthly rental, you can have additional maintenance included within your contract. This will include services such as replacement of wear and tear items, tyre replacement, servicing and roadside assistance.

Business Tax Treatment of Contract Hire

The corporation tax deductions for business contract hire users are largely dependent on the co2 emissions of the vehicle.

What percentage of the net rental payment can a business user claim against its taxable profits?

  • Cars emitting up to 110 g/km – 100%
  • Cars emitting 111 g/km or more – 85%

What percentage of the VAT can business users recover?

  • A business user will only be able to recover 50% of the VAT on the monthly rental if there is any private use of the vehicle
  • Where there is no private use, for example with a pool car kept on site, then 100% of the VAT can be recovered by the business user

Note: Any additional monthly rental for maintenance will be subject to 100% VAT recovery for business users.

Accounting for Contract Hire

A contract hire agreement is usually accounted for as an operating lease, meaning that vehicles do not appear on the business users balance sheet because ownership of the asset remains with the finance company.

Where the contract hire is accounted for as an operating lease, the net monthly rental is treated as an expense on the businesses profit and loss statement.

Benefits of Contract Hire

  • Fixed-cost motoring
  • Frees up cash flow
  • 100% of VAT claimable if the vehicle is used solely for business use
  • 50% of VAT claimable if private use is allowed by a business
  • Rentals are Corporation Tax deductible (subject to disallowances)
  • Eliminates most of the stresses/ financial risks of vehicle ownership

Things to Also Consider

  • No option to purchase the vehicle
  • Estimates of contract duration and mileage allowance are required for vehicle quotes
  • Early termination can be expensive
  • If you have exceeded your mileage allowance, an excess mileage charge will be payable
  • You must return the vehicle in a well-maintained condition
  • Vehicle must be insured with fully comprehensive insurance

Contract Hire Example

Mr Smith is the director of ABC Limited. He takes out a business contract hire agreement on an Audi A4

The contract:

  • Duration: 36 months
  • Annual mileage: 12,000
  • Initial rental: £350.00 +VAT
  • Followed by 35 subsequent monthly rentals: £350.00 + VAT

As the business is a VAT registered company, 50% of the VAT paid on the monthly rental can be claimed back as Mr Smith has personal use of the vehicle and keeps it at his personal address overnight.

At the end of the contract, the Audi A4 is returned to the finance company. Mr Smith subsequently decides to take out another business contract hire agreement on the latest Audi A4 for a further 36 months.

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