Sunday, 11 September 2016

Off Balance Sheet Government Debt

I treated myself to a new (well ex-demonstrator) car recently.  Oh OK.  Since you ask.  One of these:

In amongst all the negotiations I was offered a PCP deal.  Looking at the numbers (and the depreciation curve from Autocar and Whatcar) got me thinking about what exactly you are financing.

Inspecting the (badly sketched) graph above I have made a stab at plotting the depreciation. I have based the three year number on the quoted balloon payment.

The 'depreciation' has two components. (1) VAT (2) 'Depreciation'.  In regards to the latter with any new car you generally get all servicing thrown in for at least three years. (Mine included 5 years servicing). You'll get first years RFL. You'll get a guarantee - typically unlimited or perhaps 60K miles. All these have a cost to the maker but to you it means peace of mind (and that lovely new car smell). But all these benefits have 'run out' by year three ish.

However, you get nothing for the VAT.  Or rather the government gets 20% VAT that you have financed. You've borrowed money to pay tax.  Or rather again a bank has credited some money it has just made to your account so you can finance the VAT.   As I understand it 80% of new cars are bought on PCP deals. This is an awful lot of 'off balance sheet financing' for the government.

About 2m new cars are sold each year.  Say average of £17,500.  That's £7.0Bn per year in VAT financed by the Great Car Buying Public.

If that analysis is correct, someone should be told. Or have I missed something?

(Oh, I didn't use a PCP deal.  I put down a hefty chunk and financed the balance at a stupidly low rate as I can better use that money in my business.)


Mark Wadsworth said...

You have missed nothing and that is a bloody good point.

Bayard said...

What's a "PCP deal" and a "balloon payment"?

Ben Jamin' said...

The Disco Sport is the nicest looking Land Rover as it doesn't suffer from the overly exaggerated sloping roof line/rising waist of the other models.

Good choice.

Dinero said...

An aside point - are you sure its correct to include VAT as a special item for depreciation . If the market price of new cars , as a cost to the seller or as an alternative to a buyer, affects the market price of second hand cars , then in that case VAT is also factor in the second hand market as the market price of new cars always carries VAT.

Lola said...

D Good point. It sort of looks that everyone tries to avoid VAT. And is in large part why I went and found an ex-demonstrator. Saved about £4000. The ex VAT depreciation curve is much flatter and really reflects the loss of those New Car Benefits I mentioned.

Shiney said...


Doesn't the same apply to all borrowing used to finance consumption?

Lola said...

S Yes! That's what I was getting at. A lot of white goods, telly's, furniture etc. etc. are bought on finance.

Steven_L said...

I've never been in the market for a Land Rover, so I wouldn't know about that. But I've agreed to buy a Fiesta recently and I'm not sure the same would apply.

For a start, do dealers really get a finance commission on new car sales? My Fiesta is going to be on Ford HP at 2.9% APR. You get a manufacturers discount for buying on finance equivalent of 5% or so off, it actually covers about 90% of the interest on a 4 year HP. So I can't see why they would be paying a commission to the dealer. For used car finance at 10%+ APR I'm sure there is a commission, but all these sub-5% manufacturer subsidised deals on new cars? I'd be surprised if there was.

The discount seems very small too. Most cars are available with much bigger discounts, at least 10% and often up to 25% off the 'list' prices, through car brokers such as drivethedeal, carwow and carfile. I often see the local dealers up here in Aberdeen advertising ex-demos for more than you can order the equivalent brand new car. People are daft enough to pay the silly prices they ask too, my girlfriend did in fact. I did a quick search on carwow and got a modest offer of £2.5k off from a dealer in Fife. But still she insisted on going to see the dealer in Aberdeen, who promptly stung her for nearly the 'list' price. She spent about £2k saving herself a 3 hour round trip.

I did a lot of shopping around for mine, and basically nobody in the UK was advertising any ex-demo or pre-registered fiesta st's for less than drivethedeal were quoting for new ones.

The main reasons I suspect they like pushing PCP deals so much are:

1) The lower monthly payment means they can sell people more expensive cars
2) They can be settled in full at any time, unlike lease deals, so create more upselling opportunities
3) They appear designed to leave you with just enough 'equity' (usually about £1.5-2.5k) to feel like you can't hand the car back, meaning you need to part ex, which limits your choices and weakens your hand for negotiating a good deal on your next car.

Lola said...

Steven_L. Agreed with all that. Discounts on new vary with demand for particular model. There wasn't much discount off a brand new LR Disco Sport. I used carwow to find out.

It is a fact that most new cars are bought on PCP's. Dealers do get commission on pretty well all finance, and as you imply it varies with the rate. I did a carwow search for a Merc c Class estate and they all quoted two prices one with cash and one with finance and all the with finance offers were about £1000 to £1500 less costly.

But the point of the piece was the off balance sheet government debt to finance VAT.

The numbers on my graph are arbitrary and not my numbers on my buy.

(FWIW, and for reasons I won't bore you with, I had to buy in a much grater hurry than I normally do and got the best deal I could in the time).

Graeme said...

Bayard - sionce no one has answered your reasonable questions - why, I thought Lola and Mr Wadsworth were normally polite people - PCP is a personal contract purchase, a kind of hybrid between contract hire and hire purchase.

A balloon payment is a sum that you can pay at the end of the agreement to get full title to the property subject to the PCP. The agreement normally lasts for a few years - say 3 - and then you get to decide whether to enter a new contract for another piece of property with some sort of devious trade-in for the unexpired value of the first piece of property, hand back the property and let the owner recover the outstanding value in some way, or pay off the outstanding debt and take ownership yourself.

Dinero said...
This comment has been removed by the author.
Lola said...

G. Mea culpa. I was going to add an update to the post - but time has been against me today. So, thanks.

Dinero said...

Lola makes a good point.

it does not add directly to the government's liability for debt, but it does add to the amount of current spending by government that is funded by debt.

Steven_L said...

I'd add that PCP agreements for cars are usually structured as regulated hire purchase agreements, but with a bigger final payment.

Unlike a more normal HP agreement, they usually have a clause in them restricting how many miles you can do per annum, and a penalty charge for excess mileage.

It is a grey area whether when a punter exercises their statutory rights under the HP agreement to hand back the goods after 50% of the monies due are paid (this event usually occurs after about 30 monthly payments on a new car) whether any mileage penalty terms are actually enforceable.

Lola said...

But, as I have just been asked, does my thinking that VAT is financed by the buyer undermine MW's contention that VAT is a tax on manufacturers, not their customers?

Mark Wadsworth said...

G, I am normally polite but I didn't know what PCP stood for until i Googled it, they keep inventing new names for what is basically HP.

L, yes, VAT is borne by the producer, but overall, the government gets the money up front. So the £24,000 private HP debt is matched by net £20,000 receivable by the manufacturer.

Kj said...

My instincts tell me that financing VAT-receipts through private debts is not very significant except as a smoothing function. As a population we buy cars in a staggered fashion, and I imagine the receipt would be pretty much the same (except timing) if everyone paid an annual amount as if they were leasing.

Shiney said...

Hmm.... and then the pull the scrappage scheme trick to get everyone to buy a new car.

Lola said...

S. Quite. Always look behind the intervention to see what is really going on / trying to be achieved.