HMRC internal manual

VAT Input Tax

VIT53300 - Motoring expenses: leasing of cars

Finance leases and contract hire
Invoices for car leasing
Input tax on leased cars
Cars leased primarily for taxi or driving instruction
Input tax restriction on short term leasing

Finance leases and contract hire

Leasing companies can claim all of the VAT charged when they buy cars that will be used exclusively for business purposes, for example when the car is to be leased at a commercial rate.

In general there are two types of car lease:

  • finance leases; and
  • contract hire.

A finance lease usually conforms to one of two standard formats:

  • a residual value lease; or
  • a fully amortised lease.

Under a finance lease the lessee will pay an amount to the leasing company that covers the entire purchase cost of the car. The amount also covers:

a) the cost of finance; and

b) the profit of the leasing company.

The residual value lease usually means there will be a final balloon payment, which in theory is geared to the anticipated residual value. As a result there are lower monthly charges.

A fully amortised lease involves the lessee making payments that cover the full value of the car plus interest. At the end of the lease the car will be sold. The lessee will typically receive a rebate of a substantial part of the proceeds. Under this type of lease it is the lessee who takes the risk on how much the car will be worth on eventual disposal.

Under a contract hire agreement the leasing company will predict at the start of the lease how much the car will be worth on disposal. The leasing company charges the customer the amount, plus interest and profit, equal to this expected depreciation. Contract hire is also known as an operating lease.

Under this type of agreement it is the leasing company that takes the risk over the eventual value of the car. Because of this, customers leasing cars by contract hire are often subject to strict rules which mean they have to maintain the car to a high standard. They may also have to pay excess mileage charges.

Although these are the two basic types of lease there are numerous variations.

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Invoices for car leasing

When cars are leased at a commercial rate to a customer the leasing company’s invoice must include a statement on whether each car leased is a ‘qualifying car’ (see VIT52100).

HMRC has agreed an invoicing format with the British Vehicle Rental and Leasing Association (BVLRA). BVRLA is the trade association for contract leasing companies. The invoicing format confirms:

  • whether or not the car is “a qualifying car under Article 7(2) of the VAT (Input Tax) Order 1992 (as amended)”;
  • the VAT due on both the finance (leasing) charge and service (maintenance) charge; and
  • that the VAT due on the finance charge is the amount that is potentially subject to the 50% input tax restriction.

The first condition became obligatory with effect from 1 January 1996 by virtue of regulation 14(6) of the VAT (General) Regulations 1995 as amended. If HMRC finds a leasing company that has not yet complied with this requirement it will:

  • bring the legal requirement to their attention; and
  • instruct them to amend their invoices as soon as practicable.

HMRC staff are expected to report any instances of continued non-compliance to the Motor Trade VAT Unit of Expertise.

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Input tax on leased cars

The recovery rate will depend upon the circumstances of the business. It will also depend upon how the car will be used. Therefore it may vary from 100%, if, for example, the car is to be used for a qualifying purpose, to less than 50% if, for example, the customer is partly exempt.

Most companies who lease a qualifying car for business purposes will normally be unable to recover 50% of the VAT charged. This 50% block is to cover the private use of the car. The remaining 50% is subject to the normal rules relating to business use and any partial exemption restrictions that may apply to the business.

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Cars leased primarily for taxi or driving instruction

Businesses can claim all of the VAT charged on the lease if the car is a qualifying car and it is intended to be used primarily for;

  • hire with a driver for carrying passengers; or
  • providing driving instruction.

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Input tax restriction on short term leasing

The 50% block will apply from the first day of the hire if a car is leased simply to replace an off the road ordinary company car.

The 50% block does not apply if a car is hired for not more than 10 days and is to be used specifically for business purposes.

Please see VIT53900 for more information about short term leases.