Giving yourself or an employee a company car sounds like a straightforward perk, but it comes with a tax twist. A car you can use privately is treated as a benefit, and benefits are taxed. Understanding how that works before you sign for a vehicle can save you from an unwelcome surprise on your tax bill, and may even change which car you choose.
This guide explains, in plain English, what benefits in kind are, how company car tax is worked out, why electric and low-emission cars are treated more kindly, and the simpler mileage alternative if you would rather use your own car.
This article is general information only and is not financial advice. Tax rules can change, so always confirm the details that apply to you on GOV.UK or speak to a qualified accountant.
What benefits in kind are
A benefit in kind is something of value your business gives to a director or employee on top of their salary, where that something is not straightforward cash. A company car available for private use is one of the most common examples, but the idea also covers things like private medical cover or fuel paid for personal journeys.
Because these benefits have a real value to the person receiving them, the tax system treats them rather like income. The recipient usually pays tax on the value of the benefit, and the business may have National Insurance to pay on it too. The reason a company car gets so much attention is that its taxable value can be significant, which is exactly why it is worth understanding before you commit.
How company car tax is worked out
The taxable value of a company car is not simply what the car costs you. It is built mainly from two things: the car's list price and its carbon dioxide emissions. In broad terms, a percentage based on the car's emissions is applied to its list price to arrive at a taxable value, and the employee or director pays tax on that value while the business pays National Insurance on it.
The practical effect is that two cars with similar list prices can produce very different tax bills if their emissions differ. A cleaner car attracts a lower percentage and therefore a lower taxable value. The exact percentages change over time and are set out by HMRC, so you should always check the current bands and rates on GOV.UK rather than relying on figures from an older article.
The headline point to remember is the formula's logic: list price multiplied by an emissions-based percentage. Once you understand that, you can see why the car you choose matters so much for the tax you pay.
Why electric and low-emission cars are treated more favourably
The emissions link in the formula is deliberate. Government policy has used company car tax to encourage cleaner vehicles, which is why electric and very low-emission cars tend to attract much lower taxable percentages than high-emission petrol or diesel models. For a business choosing a company car, this can make a fully electric vehicle dramatically cheaper in tax terms than a traditional one with a similar price tag.
This is one area where the tax tail genuinely can wag the dog. If you are weighing up vehicles, the difference in benefit-in-kind tax over a few years can be large enough to influence the decision on its own. Just remember that the favourable treatment is set by current rules and bands, so confirm where things stand on GOV.UK before you assume a particular car will be cheap to run for tax.
With a company car, the cleanest vehicle is often the cheapest once tax is counted, so look at the emissions before you fall for the badge.
Fuel benefit
There is a separate trap worth knowing about: fuel. If your business pays for fuel that is used for private journeys in a company car, that can create an additional benefit in kind on top of the car itself. The fuel benefit is also calculated in a way linked to the car's emissions, and it can sometimes cost more in tax than the value of the fuel itself, especially for those who do little private mileage.
Because of this, many people choose to pay for their own private fuel and only have the business cover genuine business journeys, keeping clear records to show the split. Whether that makes sense depends on your mileage and circumstances, so it is worth doing the sums or asking your accountant before deciding how to handle fuel.
The mileage allowance alternative
You do not have to provide a company car at all. A common and often simpler alternative is for a director or employee to use their own car for business journeys and claim a mileage allowance from the business. The allowance is meant to cover the running costs of those business miles, such as fuel and wear and tear, at a set rate per mile.
This approach has real attractions for smaller businesses:
- There is no company car benefit in kind to worry about, because the car is personally owned.
- The admin is usually lighter, with the main task being to keep an accurate log of business miles.
- It can work out cheaper overall for those who do modest business mileage.
The official mileage rates are set by HMRC and can change, so check the current figures on GOV.UK. If you run as a sole trader rather than through a company, the way you handle vehicle costs is slightly different again, and our guide to allowable business expenses for sole traders explains the options that apply to you.
Reporting through P11D or payrolling benefits
However you provide a car or related benefits, the value has to be reported to HMRC so the right tax is collected. There are two main ways this happens:
- Reporting benefits after the tax year on the relevant form, traditionally the P11D, which tells HMRC the value of the benefits provided.
- Payrolling the benefits, where the value is fed through your payroll during the year so the tax is collected as you go.
Payrolling benefits can make life simpler because the tax is dealt with in real time rather than catching up later, but the right approach depends on your setup. If you run a payroll, this connects closely with your wider obligations, which our guide to PAYE and payroll basics for small employers sets out. The rules around how and when benefits must be reported do shift, so confirm the current requirements on GOV.UK.
How this fits into how you pay yourself
For a director, a company car is one piece of a bigger question: how to take value out of your company tax-efficiently. A car interacts with your salary, your dividends and your overall package, so it is rarely sensible to look at it in isolation. Our guide comparing a director's salary versus dividends puts the company car decision in that wider context, so you can see how the pieces fit together before committing to a vehicle.
Frequently asked questions
Is a company car always worse for tax than using my own car?
Not always. The answer depends heavily on the car, especially its emissions, and on how many business miles you drive. A low-emission or electric company car can be very tax-efficient, while a high-emission one may make the mileage allowance route more attractive. The only reliable way to know is to compare the numbers for your specific situation.
Why do electric cars cost so much less in company car tax?
Because the tax is linked to emissions, and electric cars have very low or zero tailpipe emissions, they attract a much lower percentage in the calculation. This is a deliberate policy to encourage cleaner vehicles. The favourable bands are set by current rules, though, so check the latest position on GOV.UK before assuming what an electric car will cost in tax.
Do I have to use a P11D, or can I payroll the benefit?
Both routes exist. You can report benefits after the year end on the relevant form, or you can payroll them so the tax is collected through your payroll during the year. Payrolling can be simpler for real-time accuracy, but the requirements can change, so confirm what currently applies to your business on GOV.UK.
A company car can be a genuine perk or a costly mistake, and the difference often comes down to understanding the tax before you buy. For more plain-English guides on tax, payroll and running a UK small business, subscribe to our newsletter and we will send our latest articles straight to your inbox.
