What is car allowance?

A car allowance covers any work-related costs when an employee is using their own vehicle for their job. In some industries, a car allowance is the norm, but in others, it is a reward for employee loyalty.

Examples of expenses car allowance covers include fuel, some maintenance, and a lease. 

How does car allowance work?

When an employee has a car allowance they receive a lump sum of money added to their salary to cover work-related driving expenses, such as fuel or even a lease. Car allowance is usually paid on a monthly basis and is included in their payslip.

Is car allowance taxable?

Yes, because it's an employee benefit. The amount of tax an employee pays is determined by their income tax band. The basic rate is 20% and the higher rate is 40%.

For car allowance to be a meaningful benefit you must keep in mind how much money employees can access after tax has been deducted.

Car allowance vs a company car: a quick comparison

Are you going to offer your employees car allowance or are you looking into providing a company car? We've created a quick overview for employers to see what their options are as they add vehicles to their employee benefits package

Benefits of a company car

  • Possibility for branding cars, especially for sales representatives

  • Great incentive to attract top talent

  • You have control over the choice of vehicle

  • Easy to control the costs

Cons of a company car

  • You’re responsible for repairs, servicing and driving costs

  • You’re liable for vehicle insurance

  • You’re responsible for selling the car in the end or when the employee leaves

  • It could be inefficient regarding taxes for both parties

  • A company car scheme requires a significant investment upfront

Benefits of a car allowance

  • Cash allowances’ administration and maintenance costs are passed onto the driver, less responsibility for you as an employer
  • You can avoid company car tax and still offer a big benefit to employees

Cons of a car allowance

  • Could be more expensive in a changing economy, when you end up paying employees more than what their car costs due to price drops

Company car vs car allowance - what's the difference?

Male Driver Using Touchscreen In Company Car

One obvious factor that compels employees today is the freedom of choice, which can also vary according to your employee benefits provider. The automobile industry is thriving with technological advancements at its helm. For an employee who uses their vehicle as an extension of their office, it's no longer simply a means of getting from point A to B. The increasing practicality provided by added mod cons such as sat nav, Bluetooth, hands-free calling and parking sensors are paramount.  

By allowing employees to select a new car, with PCP there's a greater chance that they can select their vehicle at a competitive rate. PCPs also offer increased flexibility. Since the scheme only covers the depreciation of the vehicle over the duration of an agreement, rather than its full value, monthly payment plans can be brought down, which provides greater freedom based on their financial restraints. When the customer reaches the end of their agreement, they can choose to either hand the keys back, buy the vehicle or begin a new PCP.

Reassurance and insurance

Car insurance policy for a company car

When a company has its own maintained, insured and serviced fleet, the drivers, of course, have more security. Employers in possession of a fleet of cars can provide their people a cheaper option, when taking into account tax savings and salary sacrifices schemes in comparison to straight-up monetary repayments, and any initial upfront costs.

If a cash alternative is made readily available to employees, new HMRC tax regulation will likely be triggered, meaning employees will be taxed on higher Benefits in Kind (BiK) or the cash allowance. Alongside the employee’s higher tax liability, those offered cash allowances will lose the incentive to choose low emitting vehicles, since the tax benefit will be eroded.

Additionally, the employer will also be subjected to higher National Insurance contributions on any vehicles that were previously valued as a low BiK, making the process more complex and convoluted for new and existing employees based on their different demands and needs.

Personalisation vs. unification 

Vehicles available via company car allowance

Read next: Employee Benefits - a guide for success

Another factor is branding. Part of the attraction to corporate car fleets is the uniformity with which they portray the company. Decisions relating to image and the operating cost play a huge part in the selection process. This often restricts certain makes, models and body types, such as convertibles or, for environmental reasons, certain emission brackets and fuel types.

However, cash allowances depend on the employee directly sourcing their vehicle from a dealership or website, which can be time-consuming. To avoid running into such complications, management should be mindful of this when considering the option to offer a cash allowance — especially in smaller teams. As the rates of BiK tax change every tax year, employers must remain savvy or risk forking out reimbursement costs to their employees.

The basics of BiK and car allowance tax

car sales old balance scales pounds sterling

Every year the question of how much tax an employee will have to pay towards their annual BiK tax is calculated using three key factors.

  • Driver earnings
  • The cost of the car
  • The amount of CO2 it emits.

Here's how it works: a person earning a lot of money in possession of an expensive car that emits high levels of CO2 will, quite rightly, pay through the nose in BiK tax. Reverse those three factors and they'll pay less.

With a unified fleet of pre-chosen cars, on the other hand, a company can easily figure out overall fuel costs and required mileages and dedicate resources accordingly. This cuts out the trouble of having to adjust an employee’s salary to meet their automobile tastes and habits.

However, with the growing focus on electric cars and surcharge of 4% on diesel cars, there's much debate about how the Vehicle Excise Duty (VED) will be affected. This is a basic amount payable on all cars, based on their CO2 emissions, regardless of whether they're for personal or business use.

Added to this, employers can find themselves caught up in the debate over whether or not to shift to an electric run fleet in the interim, and forking out for additional costs.

Company car allowance tax vs a monthly salary

Young worried employee has empty piggy money bank

Cash allowances for company cars are typically added onto the employee’s monthly salary, which means it's subject to normal income tax. Employees will therefore need to calculate how this affects their take-home as tax bands come into play. 

In the case of company-provided cars, the administration and maintenance are cared for by the business, leaving less choice for an employee but also less hassle. In contrast, cash allowances’ administration and maintenance costs are passed onto the driver. This gives further freedom in choosing a motor but also less guidance towards the overall upkeep.

Such decisions should not be taken lightly. This guide explains the considerations you should take when researching the best decisions for you.

Reducing your car tax

Is car allowance taxable? For people who are curious about tax implications in the UK and want to cut back on how much car tax they're paying, there are several things to keep in mind. Making the switch to an electric car or want to know more about what making specific changes to your car means for how much taxes you pay? 

Company car vs car allowance: what you should consider

There are many factors that separate company cars from a car allowance, and what is right for one workforce may not be right for another.

Financial control

When it comes to financial control of a company car:

  • Employees pay Benefit In Kind (BiK) on the company vehicle based on the value of the vehicle, CO2 emission level and tax rate.
  • You know what the monthly costs will be and so can budget accordingly.

Financial control when you offer a car allowance:

  • Employees are free to spend the cash allowance in any way – not necessarily on a vehicle if they find that public transport may be more helpful in the role.
  • Employees do not pay BIK on the company vehicle, but the gross cash allowance is subject to yearly tax reviews and N.I deduction.
  • Employees need to take into consideration their financial circumstances e.g. cash allowance value, mileage and tax rates. Some drivers win and some lose
  • Drivers are responsible for the purchase, finance and running costs.


The ownership of company cars:

  • The car is chosen from an approved list and is owned by the company, not the employee.
  • Should the employee leave the company they will have to return the car.
  • The acquisition and disposal of the car are the responsibility of the company.

But when it comes to a car allowance:

  • Employees may own the car or be responsible for paying a finance agreement towards it.
  • If employment is terminated, former employees are responsible for buying and selling the car.

Insurance policies

Insurance policies for a company car:

  • Insurance is paid for and dealt with by the company.
  • Accidents and other claims managed by the company, including the provision of an alternative vehicle.

Insurance policies for a car allowance:

  • Employees are responsible for Insurance cover that includes business travel (if employees are planning on using the car for business).
  • Insurance is a significant factor in vehicle choice, as individual circumstances will influence the cost considerably due to annual mileage, age, driving record and employee’s home location.
  • All accidents and claims need to be dealt with by the owner.
  • Owners incur replacement vehicle costs.

Maintenance responsibilities

Maintenance responsibilities for a company car:

  • Peace of mind – Maintenance, MOT, breakdown, tyre, glass and road taxes are both paid for and dealt with by the company or its fleet management service provider.
  • Service benefits such as online booking, collection and delivery, wash and vacuum, courtesy vehicle provided.

Maintenance responsibilities for employees receiving a car allowance:

  • Employees are liable for all maintenance costs, and unpredictable costs associated with this. Service levels and costs in garages are not monitored by the company and are at the employee’s own risk.
  • Employees need to arrange for maintenance and MOT work to be undertaken.
  • Once in ownership of a car, employees need to purchase breakdown cover.
  • Direct ownership may incur replacement vehicle costs and inconvenience.

Fuel and reimbursement policies

Fuel and reimbursement policy for a company car:

  • All costs, apart from private fuel, stay with the company.
  • Business mileage needs to be logged and claimed for, receipts need to be kept
  • If using a fuel card employees need to keep mileage records in order to split private and business fuel usage.
  • The company may pay all fuel consumption including drivers’ private mileage.

Fuel and reimbursement policy for employees receiving a car allowance:

  • Reimbursements will need to cover depreciation, maintenance, tax and insurance costs in addition to fuel
  • Some companies may choose to cover fuel on an actual cost basis via fuel cards.
  • If companies are paying an employee a higher or lower reimbursement, rate than the AMAP’S rate, they may be entitled to tax relief or may incur a tax liability. Employees may have to wait until the end of the tax year to reconcile your tax position and regain any lost earnings.

Duty of care

Duty of care for a company car:

  • Under their fleet policy the company will ensure good risk management practices are in place to protect and improve driving for all drivers.

Duty of care for a car allowance:

  • There is less focus on maintenance and roadworthiness of vehicle from a company perspective.
  • By extension, there is less risk management to ensure employees exercise safer driving practices.

Environmental considerations

Environmental considerations for a company car:

  • Some companies may offer incentives for cleaner vehicle choice.
  • They may provide access to alternative fuel vehicles such as hybrid models.
  • It may be easier to run and carry no residual value risk to the employee.

Environmental considerations for a car allowance:

  • Employees may opt against a vehicle and use the cash to fund other travel methods e.g. season tickets for public transport.
  • Employees are free to choose any vehicle and so may not consider environmental performance a key criterion in this choice.
  • However environmental performance may be compromised due to cost and other practical considerations.

Choice of vehicle

Choice of vehicle in a company car program:

  • Employees are guaranteed a brand new vehicle in line with replacement policy e.g. every three years.
  • Choice is restricted to vehicles on the company car list – this may be open for employees to choose from.
  • Discounts are included and may enable a better vehicle and/or spec to be selected.
  • Trade up/down enables further flexibility if offered
  • Extras policy may limit the options that can be selected.

Choice of vehicle for employees receiving a car allowance:

  • Theoretically employees have a free choice of any vehicle and any optional extras.
  • There is also the flexibility to change the vehicle at any time (but this will have an implication on costs.)

Steering your thoughts

Young employee inspecting car allowance documentation

There's no single right way to approach car allowance. It's ultimately a question of whether a company wants to put the responsibility into their employee’s hands. It's in turn up to an employee to consider whether accepting the cash and freedoms that surrounds owning their car is worth the costs in upkeep and salary sacrifice.

Regardless of the approach you decide to take, always research your options carefully.

Frequently asked questions about car allowance

How much car allowance should I get?

This is entirely up to your employer and their scheme. Some companies offer bigger allowances than others and there are many factors that influence this. The most obvious is expected business mileage, but other factors include employee seniority and regional repair costs.

How will I receive car allowance?

How is car allowance paid?

Should I take a company car or car allowance?

Is car allowance part of a salary?

How does a company car work?

How does company car allowance work?

What are the benefits of a company car?

What are the benefits of car allowance?

Get your employee benefits strategy on point

We've put together this guide to give you the tools you need to plan, create and review your very own employee benefits strategy.

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