More than 400,000 UK residents have bought new bikes at cut-price rates since the Cycle to Work scheme was introduced in 1999, but a new decision on VAT puts its future at threat.
The way the tax break works is that an employee chooses a bike, nominally to ride to work, which their employer then buys. The employee then 'hires' the bike, before buying it at the end of a set period.
Savings are made because the employer doesn't have to pay VAT on the original purchase and the employee pays for the monthly hire via salary sacrifice, which lowers the amount of income tax and national insurance he/she has to pay.
New guidance on the 'final value' of these bikes has already reduced the discounts available, but a ruling by the Court of Justice of the European Union could sound the death knell of the scheme. The court has decreed that goods provided as part of salary sacrifice schemes should be subject to VAT.
This means that, from 1 January 2012, employers can still buy bikes tax-free but employees taking part in the scheme will be charged VAT on the "value of the salary foregone" in exchange for the hire of the bike. They'll also continue to be charged VAT on the 'final value' payment.
Currently, an employee on basic rate tax can choose a £500 bike and 'hire' it for 12 months for £287.50 (£34.72 a month, minus £10.76 in income tax and NI savings on the total salary). After paying the £108 final value fee (£90 + 20% VAT), they'll have spent a total of £395.50. This represents a saving of £104.50.
From 1 January, 'hiring' the same bike will cost £345.12 (£34.72 + 20% VAT a month – £41.66 – minus £12.90 in income tax and NI savings). After paying the £108 final value fee, they'll have spent a total of £453.12. This represents a saving of £46.88 – less than half the current discount.
Despite this, Cycle to Work scheme providers have welcomed the clarification of the VAT rules. Charles Ashwell, corporate sales manager for Halfords Cycle2work, said: “The new ruling removes the final element of uncertainty about exactly how schemes should operate going forward, and in so doing, strengthens it further."
Meanwhile, the Cycle to Work Alliance – a group of leading providers of the scheme including Halfords, Evans Cycles and Cyclescheme – described the ruling as "a helpful clarification on the tax implications of the scheme for participating companies", and claimed that savings "will typically amount to up to 43 percent even after the application of the new ruling".