Fleet - Limited mileage

If the UK’s company car drivers didn’t heave a collective sigh of relief when chancellor Gordon Brown sat down at the end of his Budget speech, then they should have done.

Despite all the gloomy predictions, he didn’t force them to shoulder sharp increases in personal taxation if they wished to retain their Ford Mondeos and Vauxhall Vectras. The basic taxable benefit rates are unchanged for 1998/1999, remaining at 35% of the list price of a car on the day before it was first registered, with discounts depending on the vehicle’s age and the driver’s annual business mileage.

The only company car drivers who are likely to feel some pain are those receiving free or subsidised fuel for their private mileage. For 1998/1999, and each of the following four years, the scale charges for petrol will rise by 20% over and above the usual increases in line with pump prices. The charges for diesel are being aligned with petrol charges – with effect from 1998/1999.

‘If you’re doing less than 10,000 private miles a year, then free fuel is probably not the advantage it was,’ reckons Nigel Underdown, director of marketing at Godfrey Davis. The government wants to discourage motorists from using their cars needlessly – one reason for the increase in fuel duty in the Budget – but if they receive free petrol or diesel, there’s nothing to deter them.

‘Companies will look very closely at the wisdom of providing free fuel anyway because the duty increases make it that much more expensive for them to do so,’ says Fleet Management Services’ managing director, Geoff Cobley.

Car leasing chiefs reckon the majority of their customers’ employees will have to be hit a lot harder by benefit-in-kind taxation before they consider surrendering their cars in exchange for a salary hike and perhaps some form of personal leasing scheme. And although the government’s transport White Paper, due in May, could bring about further changes, they were pleased to see that Brown did nothing to discourage fleet operators from acquiring their vehicles under operating leases; these are usually described as contract hire agreements.

They may perhaps have been a little disappointed that lessors didn’t qualify for the 40% first-year capital allowance on the purchase of equipment that they intend to lease out. But they probably weren’t surprised.

Tony Williams, managing director of leasing and contract hire specialist Vauxhall Master Hire – the biggest operator of Vauxhalls in the world, with 37,000 on its books – estimates that of the one million fleet cars sold annually, half are supplied subject to contract hire agreements, which these days invariably include maintenance.

‘Contract hire’s advantages include fixed expenditure,’ he observes. ‘Once you’ve signed an agreement, you know how much your vehicles are going to cost you each month, and that gives you an advantage when it comes to forward budgeting.’

That expenditure won’t include fuel, insurance or the driver’s salary, and may or may not include tyres. ‘But you have access to an additional line of credit,’ says Williams. This is not the case if you opt for a bank loan. ‘It’s got cashflow advantages too,’ says Philip Ross, head of sales and marketing at Honda Finance. All you need to do to obtain a brand new vehicle is put down three months’ deposit – perhaps #900 in total on a mid-range car.

If that car breaks down, then the majority of schemes will supply a replacement until it is fixed, so staff are kept mobile. ‘You can take advantage of the lessor’s purchasing clout too,’ says Williams.

Somebody the size of, say, Lex Vehicle Leasing – responsible for 94,000 vehicles – is able to buy cars, replacement parts, and garage workshop hours on better terms than a firm that only operates 50, advantages you don’t enjoy if you opt for bank funding or hire purchase. And both motor manufacturers and their dealers tend to respond to its demands quickly and in full; they have too much to lose if they don’t.

Risky business

The lessor takes all the risks inherent in disposing of the car at the end of the contract, says Lex, as well as the possibility that interest rates will rise, although both variables will be taken into account when monthly payments are initially calculated.

VAT can be reclaimed on 50% of a car’s monthly rental, and on 100% of the maintenance expenditure. In a change introduced in 1995, lessors can reclaim VAT on the cars they purchase – companies buying cars for their own use cannot, although they can reclaim VAT on light commercials – but have to pay it on the disposal price.

‘That means we can quote rental rates based on the VAT-exclusive price of a car, and that gives us an advantage,’ says Ross. ‘It means that the rate can be #20 to #30 a week cheaper than they would be if we couldn’t reclaim VAT at the front end,’ says a Lex Vehicle Leasing spokesman.

Williams believes that it is the budgeting arguments, rather than any need for vehicle finance to be on or off balance-sheet, that swing the argument in contract hire’s favour.

Ross points out that while cars acquired under a finance lease have to be shown as balance-sheet assets – the use of finance leasing to acquire a fleet has declined steeply in recent years – contract hire is treated as off-balance-sheet finance. ‘However any financial analyst will soon spot that a company has leased assets that aren’t shown, and these ongoing liabilities have to be declared in a note attached to the accounts,’ says Andy Johnson, sales director of British Car Contracts, responsible for 70,000 vehicles.

Johnson estimates that the number of companies switching to contract hire is rising by 10% to 15%.

Something that can trigger a change may be the need for the sort of cash injection that can be provided by a sale and leaseback agreement, says Philip Op de Beeck, managing director of Axus. But leasing companies are rightly wary of doing business with firms that need the cash because they’re in serious financial difficulties.

Some fleets fear that they will face substantial charges for stone chips and minor scratches to be rectified when an agreement expires. That may be the penalty that will be paid if a lessor is promoting unusually low monthly rentals – it will want to make up the shortfall somehow – but the majority don’t levy unreasonable financial penalties, Williams contends; after all, they want to retain the customer’s business and, as he claims: ‘97% of clients don’t face these charges.’

‘The British Vehicle Rental & Leasing Association has put together a definition of what constitutes fair wear and tear, and that’s the definition we follow in our contracts,’ says Johnson. ‘We also supply all our clients with the BVRLA’s wear-and-tear booklet.

When a contract hire agreement is originally written, it will be on the basis that a car will do a predicted mileage over a given period: 60,000 miles over three years, for example. But what happens if it ends up doing 75,000 miles? Excess mileage charges are levied, says Williams, but if the lessor and lessee are communicating with one another, that situation shouldn’t arise. If after a few months both sides can see that the driver is covering more – or less – ground than expected, then the monthly rate can be reduced or increased to reflect that fact.

The mile pool

Another option is mileage pooling, although this usually only works with bigger fleets. ‘It tends to be for firms with 100 cars or more,’ says FMS’ Cobley. If some cars have done more than their expected mileage, and some less, then the latter’s shortfall is allowed to cancel out the former’s excesses.

Extracting yourself from an agreement if times get tough and staff have to be made redundant is a further consideration and, as with any leasing agreement, there are penalties for early termination. That’s the flip side of enjoying fixed costs over an extended period.

‘If, say, you are 18 months into a three-year contract and want to terminate it, you could have to pay nine months’ rental,’ says Master Hire’s Williams.

‘That’s generous when you look at the early termination penalties imposed if you’re leasing other types of equipment,’ he claims.

But wise lessors will be flexible wherever possible, says Lex. If, for example, the car concerned can be placed with another customer, then the termination penalties needn’t be onerous; and some clients are happy to take second-hand vehicles on short-term agreements, usually to get new recruits mobile.

All lessors are seeking to add value to the services they provide. Vauxhall Master Hire, for instance, is typical in arranging for short-term rental cars to be supplied at discounted rates. It also provides an accident management service, another typical option. This involves arranging for the damaged car to be picked up and taken to a repairer, liaising with the insurance company, and, if necessary, pursuing the owner of any other vehicle involved in the incident for uninsured losses. ‘We’re about to make a fuel card available too,’ says Williams.

Lex Vehicle Leasing already makes a fuel charge card available in conjunction with Shell. Fleets using it enjoy 33 days of interest-free credit on purchases plus volume-related discounts on posted pump prices, says Lex. The card also generates free management reports that can be used to analyse fuel consumption per vehicle.

‘Some clients want us to help them choose the vehicles they’re going to run, set their replacement policies, and liaise directly with their drivers,’ says FMS’ Cobley.

Not everybody takes this flexible approach though, says Godfrey Davis’ managing director, John Lyons. ‘Too often, fleet policy is formulated internally without revealing to suppliers what the company’s motives are, what lies behind its thinking, and without seeking input from the supplier and seeing what is on offer,’ he says. ‘Unless the customer is prepared to be open-minded and flexible, this rigid approach will inhibit the scope and suitability of the solu-tion offered, to the financial and operational detriment of the customer.’

Hire specialists in straitjackets

He believes the move among many companies towards using tender documents to shop for fleet solutions means that contract hire specialists are often shoved into a straitjacket. ‘The depth and range of services on offer and the quality of delivery cannot always be fully expressed on a pro forma tender document,’ he contends.

All the foregoing indicates that contract hire leads to administrative savings, a point highlighted by Axus’ Op de Beeck. ‘Say you run 100 cars, you buy them all outright, and you organise all the servicing, taxing, and insurance yourself,’ he says. ‘That means you’ll probably receive five to ten invoices per vehicle per year; 500 to 1,000 invoices fleet-wide.

Each maintenance bill will vary in size, and will require close individual scrutiny. Work out the cost of all this paperwork, and allocating each invoice to the relevant cost centre, and it’s a substantial sum.’

Johnson estimates that benefit-in-kind taxation would have to rise by around 10% before an appreciable number of drivers began to look seriously at surrendering their company car and opting for a personal contract hire or a personal contract purchase scheme instead. ‘A lot would also depend on how much of a salary increase their employer was prepared to offer them in exchange for surrendering their vehicle,’ he adds; and a salary hike could, in some circumstances, push staff into the 40% tax band, warns Honda Finance’s Philip Ross.

Johnson believes that such arrangements are initially most likely to appeal to office-based employees who receive a vehicle because of their grade within the company, but who cover fewer than 2,500 business miles a year and thus pay maximum tax on their benefit.

‘At present, though, less than 5% of drivers are being offered cash instead of a car,’ says Lex Vehicle Leasing. ‘Remember too that the provision of a company car as well as an attractive salary package remains a valuable recruitment tool in a climate where there are staff shortages in certain areas,’ says Cobley. ‘One problem with personal schemes is that the individual remains liable for the payments if he is made redundant or leaves the company to go to another job,’ says Axus’ Op de Beeck. It is possible to insure against the cost of escaping from an agreement for around #15 a month, he adds, ‘not a bad deal given the liability.’

Something that may become more popular – if only because they help foster good employer/employee relations – are schemes such as Zenith Personal Choice. It allows employees who would not normally be entitled to a company car the chance to acquire one at competitive interest rates and with a guaranteed minimum future value. ‘It is not a taxable benefit just so long as the employer isn’t contributing to it,’ says Zenith sales and marketing director Andrew Cope.

Contract hire isn’t the best solution for every company, something even Master Hire’s Williams is willing to concede; contract purchasing has its advantages, especially for organisations that are fully or partially VAT-exempt. ‘If you’ve no investment opportunities for your money, then in some circumstances you might as well buy some cars outright, even though you’re putting your cash into depreciating assets,’ Williams observes.’You benefit from the writing-down allowances, and you’ve got infinite flexibility. You don’t have to retain your vehicles for a fixed period and you’ve got assets on your balance sheet, if that’s important to you.’

Here too, however, involving a third party can make sense. Lex Vehicle Leasing, among others, will look after all the maintenance in exchange for a fixed monthly fee, which means customers benefit from its buying muscle.

It can also wield its muscle in another way, by purchasing the vehicles on the customer’s behalf. At the end of the contract, the customer has the option of transferring each car to Lex at a pre-agreed second-hand price.

While the chancellor let the company car user and his boss off lightly this time, it may not always be so. The future could see a shift away from a regime that benefits high business mileage drivers, and towards one based on private mileage; a policy popular in some continental countries.

Op de Beeck says: ‘It’s a fair approach.’

Steve Banner is a freelance journalist.