Car allowance is a common benefit offered by employers across the UK. However, without a clear understanding of how it is taxed and how to claim relief, employees can end up paying more tax than necessary.
This guide explains everything you need to know based on rules set by HM Revenue and Customs (HMRC).
What is a Car Allowance?
A car allowance is a fixed cash payment provided by an employer to help cover the cost of using a personal vehicle for work.
With a car allowance:
- You receive extra money in your salary
- You own or lease the car yourself
- You are responsible for all running costs (fuel, insurance, maintenance)
How is Car Allowance Taxed?
Car allowance is treated as standard income, which means:
- Subject to Income Tax
- Subject to National Insurance Contributions (NICs)
It is processed through PAYE just like your salary.
Example: If you receive £5,000 as a car allowance, it is added to your salary and taxed based on your income tax band.
Car Allowance vs Company Car (BIK)
Unlike car allowance, a company car is taxed as a Benefit in Kind (BIK).
BIK tax depends on:
- Vehicle CO₂ emissions
- List price of the car
- Fuel type (petrol, diesel, hybrid, electric)
Electric vehicles typically have very low BIK rates, making them more tax-efficient in some cases.
Can You Claim Mileage Tax Relief?
Yes, if you use your personal vehicle for business travel, you may be eligible to claim tax relief using HMRC’s Approved Mileage Allowance Payments (AMAP).
HMRC Approved Mileage Rates:
- 45p per mile (first 10,000 miles)
- 25p per mile (after 10,000 miles)
How Tax Relief Actually Works (Important)
If your employer pays less than HMRC rates, you can claim the difference.
However, you do NOT receive the full difference as cash.
Instead, you get tax relief based on your income tax band:
- Basic rate (20%) → 20% of the claim
- Higher rate (40%) → 40% of the claim
Example (Corrected)
- Employer pays: 30p per mile
- HMRC rate: 45p per mile
- Difference: 15p per mile
If you travel 5,000 miles:
- Claimable amount = £750
Actual tax saving:
- 20% taxpayer → £150
- 40% taxpayer → £300
What If Employer Pays Full Mileage?
- If employer pays 45p per mile (or more):
- No additional tax relief can be claimed
- If employer pays more than HMRC rates:
- The excess may be taxable
What Counts as Business Mileage?
- Travel between workplaces
- Client visits
- Temporary work locations
Not allowed:
- Commuting (home to permanent workplace)
- Personal trips
How to Claim Mileage Relief
You can claim through:
- Self Assessment tax return
- Or P87 form (if not filing Self Assessment)
Keep records of:
- Dates of travel
- Mileage
- Purpose of trips
Car Allowance vs Company Car: Which is Better?
Car Allowance – Best If:
- You drive frequently for work
- You choose a cost-efficient vehicle
- You want flexibility and ownership
Company Car – Best If:
- You want fewer responsibilities
- You prefer employer-covered costs
- You opt for low-emission or electric vehicles
The better option depends on your tax band, mileage, and vehicle choice.
Common Mistakes to Avoid
- Assuming car allowance is tax-free
- Claiming commuting mileage
- Not keeping proper mileage records
- Missing out on eligible tax relief
- Ignoring tax impact if in higher income bracket
Final Thoughts
Car allowance can be a valuable benefit, but it requires careful tax planning. By understanding HMRC mileage rules and claiming the correct relief, you can significantly reduce your overall tax burden. At Pro Taxman, we help individuals and businesses optimise their tax position while staying fully compliant with HMRC regulations. Whether it’s mileage claims, car allowance planning, or overall tax strategy our experts are here to support you.