Finance lease is a popular agreement for businesses needing cars, vans and commercial vehicles where contract hire is not suitable. It offers flexibility and tax advantages to eligible companies who require one or more vehicles but don’t have the accessible funds to pay for them up front.
As part of a finance lease agreement you can choose to pay either the entire cost of the vehicle, including interest charges, over an agreed period. Alternatively, you can opt to pay lower monthly rentals with a final payment based on the anticipated resale value of the vehicle (otherwise known as the ‘balloon payment’). Throughout the agreement, the vehicle remains the property of the leasing company.
This type of agreement is only available to business customers – including limited companies, self-employed people and sole traders; it is not available to private individuals. It is a particularly popular option for businesses because of the significant tax advantages (continue reading for more information on this).
If your company chooses to take out a finance lease on a brand new vehicle, you will be hiring it for a specified period of time (two or three years, for example) and make regular monthly payments to rent it.
Your business will be able to use the car or van without facing the high upfront cost of a new vehicle, handle the administration of the vehicle, and have the assets show on your company’s balance sheet.
At the beginning of the lease, usage parameters for the vehicle are agreed. Providing these restrictions are met, monthly payments and interest rates are fixed for the duration of the contract.
If yours is a VAT registered company, you can reclaim between 50% and 100% of the VAT payments depending on whether you are renting a car or commercial vehicle. If your company is not VAT registered, you can choose to spread the VAT costs across the term of the lease by incorporating it into your monthly rental.
Your payments can normally be offset against taxable profits (special rules apply to cars)
At the end of the contract the vehicle can either be sold by the user to an unrelated third party (some funders may handle the disposal in return for a small commission) or alternatively, the user can pay the outstanding “balloon payment” and operate the vehicle under a peppercorn agreement.
At the end of the lease, the vehicle can be sold to a third party, allowing your company to benefit from any available equity if it is sold for profit. If the sale price is below the agreed residual value, you will be liable to make a further payment to the finance company.
John Smith is a sole trader working as a plumber. He takes out a finance lease agreement on a Citroen Relay.
The business chooses to pay lower monthly payments and agrees a balloon payment amount based on the anticipated resale value of the Citroen Relay. As his is not a VAT registered company, VAT payments are made as part of the monthly instalments.
At the end of the contract, Mr Smith chooses to pay the outstanding balloon payment and continue to use the vehicle under a peppercorn agreement.
Please note: case studies created for illustrative purposes only.
Alternatively, you can choose to pay the outstanding balloon payment and operate the vehicle under a ‘peppercorn agreement’ – otherwise known as a secondary rental agreement.