By Ralph Morton, editor, Business Car Manager
WELL, now you’ve come to ask, it’s a way of acquiring a business car or business van.
You do this by paying a monthly amount that either pays off the cost of the asset or is followed by a final one off payment.
Financial types often call this final payment a balloon. Which is fine, but does conjour up in my mind an image of children’s parties. More specifically, of the always vaguely comical process of blowing up balloons. Which I’m not sure is quite what financial types had in mind…
OK, that aside, why would you consider a finance lease?
A finance lease sits halfway between outright purchase of a car or van using funds from your business, and contract hire – where you pay a monthly rental for the use of a car or van over a set period. It’s also highly VAT efficient.
Finance lease is more niche than either hire purchase (HP) or contract hire, but useful nonetheless. For small business owners it’s often a helpful way to finance an expensive car, matching the finance period to cash flow projections.
But it’s often favoured by business van operators as a method of financing new vans, because it suits their needs and how the vans will be used: hard.
For example, with a contract hire agreement, there’s always the fair wear and tear issue at the end of the lease, which can be problematic for van users in the rough and tumble of your trade. Vans lead a tough life…and it’s not always easy to keep them pristine.
While it’s important that the van – or car – is in a good saleable condition at the end of the finance lease period, it’s not as critical. You won’t be hammered by the leasing company for refurb charges.
Is every finance lease the same? Come on, you know it’s never that simple with car and van finance. But, actually, that works to your advantage.
There are two types of finance lease with payment profiles that can usefully fit the cash flow of your business.
The first enables your business to acquire a van or car with a reduced level of monthly payments, which is then followed by a final amount to settle the agreement (the balloon payment).
This final amount to pay should be aligned with the residual value of the van or car, which is sold, and the final amount owing – the balloon – is paid off with the proceeds of the sale. This type of finance lease is referred to as a fixed payout lease.
The second type of finance lease is called a full payout lease, because you repay the full value of the vehicle over the period of the lease. At the end of the lease agreement, you sell the van or car on behalf of the lease company and receive up to 95% of the sales proceeds as a rebate on the lease rentals you have paid.
Alternatively, which is often quite attractive if you’ve financed your business car or van on a full pay out finance lease, you can agree a second rental period with the leasing company.
As the cost of the van or car has been paid in the rentals, you continue to drive the vehicle but pay what’s called a ‘peppercorn rental’ – a small nominal amount which recognises that: a) the vehicle still belongs to the lease company; but b) you’ve paid off the full cost of the vehicle.
What about the VAT on a finance lease? The rentals attract VAT, so the treatment will differ depending if you’re financing a business van or a business car.
So let’s start with the van. As this is a business tool with no private use, you can reclaim 100% of the VAT.
With a business car if there is private usage – and with 99 per cent that’s the case – there is a 50% restriction on the VAT.
There is a further VAT advantage to finance lease, though. The leasing company providing the finance can reclaim the full 100% of the VAT on the purchase of the vehicle which it should then pass on to you as lower rentals.
However, when you sell the vehicle, VAT will have to be added to the price – a point worth remembering in your calculations.
With finance lease, do I own the car or van? Well, yes and…err no. The vehicle is shown as an asset in your accounts, but you don’t actually hold title to the vehicle: that stays with the finance or leasing company.
So you don’t claim capital allowances on a finance lease, but put the rentals against your P&L account: 100% is allowable for cars with CO2 emissions up to 160g/km; or, if the emissions are above 160g/km, there’s a 15% restriction. On vans the full amount is allowable.
So, is finance lease for me? Well, that’s entirely up to you, but a finance lease does give you flexibility in how you structure the payments, which you can match to the cash flow projections of your business. It also keeps other lines of finance open to your business – such as bank overdrafts and loans (should the banks be willing to lend of course…).
And for VAT registered small businesses, it’s a usefully VAT efficient method to fund your new business car or business van.
Talk to your accountant and work out how a finance lease would sit with your business.
Expert commentary from Fleet Alliance on finance leases I’ve always felt that finance lease is one of the unsung heroes of vehicle funding. Our sales team tend to use it with clients who may favour outright purchase over contract hire – and in some cases it has been a stepping stone towards contract hire for some clients. It may also help a client who wants to contract hire, but are unsure of their contract mileage – again finance lease provides flexibility.
It can also be a useful tool for those clients who want their lease “on balance sheet”.
As the article suggests it is a niche product, but for commercial vehicle users it can be a very useful offering.
managing director of fleet solutions provider, Fleet Alliance