Personal Contract Purchase (PCP) Payments To Attract VAT
Friday, 5. April 2019
After a 2-year investigation into the way PCP’s are accounted for, HMRC has decided to charge VAT on monthly payments. However, it isn’t that simple – as if the product wasn’t complicated enough already. For years I’ve argued that PCP’s and Personal Contract Hire (PCH) are not finance products.
I have referred to them as ‘Lifestyle Contracts’ because they aren’s as simple and straight forward as a pure finance agreement such as a personal loan or an HP agreement. Whilst both products are ‘Regulated under the Consumer Credit Act’ the act goes nowhere near far enough to properly protect consumers, not least of which when the Act became law the two products were pretty much non-existant.
So we have a very loose set of rules that cover some of the finance issues with the exception of Voluntary Termination which causes widespread confusion because of the way that dealers exploit the law and often leave customers potentially facing a court case.
Beyond this the law doesn’t cover things like warranty claims, service and maintenance standards, accidental damage, who can drive the vehicle, travelling abroad, insurance cover, what happens if you can no longer drive and a plethora of other issues that leave the consumer vulnerable to the imposition of terms created by the provider with little redress if the customer falls foul of the contract terms.
So what has HMRC decided to do? Are you concentrating? If the PCP provider sets a final optional balloon payment that is considered to be below the market value of the car at the end of the agreement then nothing changes. The transaction is considered to be a supply of goods and finance arrangement. The VAT is added into the purchase price of the car so the VAT man gets his pound of flesh out of the purchase price as the finance company cannot claim back the VAT.
So if a car costs £20,000 + VAT = £24,000 that is what you are required to pay over the lease period less an adjustment for the balloon payment, hence the reason why you don’t pay VAT on the monthly payment as the VAT man already has the £4,000 which the PCP provider can’t claim back. Oh and you end up paying interest on the VAT content. Not sure how the provider can prove that the figure set in 3 years time is below the anticipated value of the car but them’s the rules. In theory, you would buy the car at the end of the agreement or use it as a part exchange as there will be equity in the car.
With me so far? Don’t worry if you’re not I’ll give an easy summary at the end.
In the second situation the PCP provider has set a final optional payment (balloon) that is likely to be equal to or more than the anticipated trade value. In this case the HMRC believe the transaction to be a service agreement which means VAT is added to the monthly payments.
Now many of the reports I’ve read seem to stop short of the full truth because that is all they say giving the impression that you will simply be paying the same payment you would have made in the past plus VAT – but this isn’t true because the provider can now claim the VAT back in the purchase price, thus reducing the monthly payments before VAT is applied.
There is a VAT adjustment to the resale value but we’re now getting into the technical workings of VAT and that probably isn’t helping. So in summary what does this mean? Most salesmen will explain that you will have some equity in the car at the end of the agreement so if everyone is being honest and that is in fact the way the balloon payment has been set then nothing changes, no VAT on the payments.
However, the lower the balloon payment the higher the monthly payment and the lower the interest charges earned by the provider. So whilst you should recover some of the money you paid in equity if you P/X or sell your car at the end of the agreement, the higher monthly payments may not suit your cash flow
However, if the balloon payment has been set by the PCP provider knowing that the final payment is likely to be equal to or higher than the market value this now becomes a Service Agreement as it is unlikely that the customer will keep the car at the end of the lease. In these circumstances the VAT applied to the new car is recoverable so effectively reduces the cost of the car but you end up paying VAT on the monthly payments. But from my workings they pretty much cancel each other out.
I believe that we may find a situation whereby you can choose between deals to suit your budget. Take a £20,000 car with an expected resale value in 3 years time of £9,000. If the balloon is set at £9,000 you will pay £304 + VAT = £365.95 per month (using std interest rates). However, if the final balloon is set at £8,000 that should give you a return at the end of the agreement of £1,000 but your monthly payment will increase to £391.78 with no VAT to pay. However, you may not make the £1,000 but then you might return more, it’s more of a gamble but hopefully, the choice will be given to you. By Graham Hill
