Most employers pay car allowances in some shape or form to some of their employees. However, there is a huge variation in the level of allowances paid from one employer to the next with many employers not truly understanding why they are paying the level of allowances they are, how this impacts the business or their staff or even how the allowances compare to their competition locally and in their wider sector.

With this in mind, this month's article highlights some of the main points employers need to think about when devising their car allowances to ensure that any car allowances paid to staff are not only sensible and cost effective but also that they are "fit for purpose" - in other words the allowances are set at a level that will meet the required needs of the business and employees.


Basic background to car allowances

We think it would be useful just to clarify a few points before we get into the detail:

  1. What we mean by a "car allowance" is a regular cash payment to the employee, usually as an extra payment with salary, as a contribution towards the costs of owning and running a private car.
  2. A car allowance is often paid instead of a company car being provided to those employees who need to travel in the course of their work. This is not always the case, however. Some employees may get a car allowance simply as an extra part of their employment package because of their seniority irrespective of whether they will be doing any business related travel.
  3. All car allowances are subject to PAYE and National Insurance deductions the same as any other salary payments. This is subject of course to the ongoing Total People case but, as we have said before, the outcome in that case is unlikely to change things.


So, what are the main points for employers to consider in calculating an appropriate car allowance ?

1) Consider the employee population for car allowances

Many employers make the mistake of trying to come up with a one-size-fits-all approach when deciding on the level of car allowances to pay. This is the often the case even where incremental increases are made to reflect different pay bands.

There will probably be different needs/facts to consider across different groups of employees and so the most appropriate level of allowance for one group may be completely different from another. Take for example a sales manager driving over 20,000 business miles a year in his job compared to an office manager doing little or no business mileage in a year. A car allowance payment to the office manager is really just extra pay to do with as he wishes whereas the sales manager will need the car allowance to contribute towards the running of his privately owned car which he really needs for work. The allowance for the sales manager will need to be pitched at the right level to ensure that it does not cost him money to travel in the performance of his job whereas the allowance for the office manager can be any amount within reason as there is no such dependency.


2) Consider the main objectives of paying car allowances

There can be many different reasons for an employer offering a car allowance to certain employees, all of which will have a direct bearing on what level the allowances should be pitched at. Some of the more common reasons include:

  • To get rid of company cars completely (the allowances to be offered will therefore need to be appropriate compensation for existing company car drivers)
  • To reduce the company car fleet (the car allowance will therefore need to be attractive to encourage company car drivers to take cash instead)
  • To offer more flexibility to staff (does the employer really want the employees to take the cash though ??)
  • To keep up with the employment marketplace (the allowances will therefore need to be competitive although this needs to be considered in the wider context of overall staff reward and where in the marketplace the employer wishes to be positioned)
  • To reduce the payroll spend by encouraging employees back into cars (the option of a car will therefore need to be more attractive than the allowances offered)

3) Interaction with business mileage reimbursement

It is well known that employers can pay up to 45p per business mile for the first 10,000 miles and 25p per mile thereafter completely free of tax and NI to employees who use their own cars on legitimate business journeys via the Authorised Mileage Allowance Payments (AMAPs for short)

Payment of the maximum allowances is usually encouraged as it is an easy and effective way to pay tax-free cash to employees which is too good an opportunity to miss in these days of tighter-than-ever tax laws.

However, the situation is not so straight forward when putting car allowances into the mix as the two payments are inter related and the amount of business mileage allowance has a very important part to play in getting the actual car allowance levels right.

The biggest issue is that the full 45p/25p AMAPs is intended to compensate employees with not only fuel costs but all other costs associated with using their own car on business, most notably wear and tear and depreciation. However, most car allowances also build in an element to cover wear and tear and depreciation and so employers who don't consider mileage reimbursement rates when deciding on car allowance payments often end up paying the employee twice for the same costs. This is especially a problem where the level of car allowance is higher than average combined with the maximum AMAPs as the employee could be "quids in" compared to workers elsewhere - at the employer's cost !

Another problem around this is high business mileage users. Where the mileage reimbursement rate is high, there could be a massive incentive for the employee to do as many business miles as possible to generate more "profit". This could end up costing the employer a lot of money as well as bringing up a whole host of other issues, especially around health and safety. In such cases, consideration should be given to reducing the mileage payments and/or stipulating that a company car must be taken where business mileage is expected to exceed x miles a year.

It is not uncommon to have varying rates of business mileage reimbursement for "business need" drivers, those entitled to a car allowance because of their seniority and those not entitled to any car allowance for these very reasons.

4) Terms of payment

There are certain policy decisions that should be considered when devising car allowances which may impact on the overall cost and ongoing commitment of the business for many years to come. For example:

  • Should the allowance be pensionable ?
  • Should the allowance be integrated into annual pay reviews ?
  • Should the employee be allowed to revert back to a car and, if so, when and in what circumstances ?
  • What flexibility should be allowed on either side if circumstances change ?
  • Should any restrictions be imposed on how employees should use the money and the private cars to be used for business journeys ?
  • Should any restrictions be imposed on employees using public transport when the business is already paying for travel costs ?


On the face of it, paying car allowances is not too complicated - at least compared to providing company cars. You give the employee cash, tax and NI is deducted via payroll and then the employee is responsible for providing his own transport if necessary to perform his work.

However, as we have hopefully highlighted above, getting the car allowance rates at the right level is much more involved and it can be extremely costly and damaging to the business if mistakes are made.

We would urge all employers to think through the above areas when first deciding on appropriate car allowances for employees, or when doing a review of existing payments. It may be tempting to put this in the "too difficult" pile, i.e. ignore it and just do what Joe Bloggs employer is doing down the road but some hard work at the outset will pay dividends later on.

Of course, we have many years of experience of helping employers with this conundrum, ranging from fancy spreadsheets to consider all permutations, to benchmarking against other employers, to advising on all areas we mention above. As ever, get in touch if you need our valuable input in this area or think an initial (free) discussion would be useful.

FacebookTwitterLinkedinRSS Feed