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Term time: finding the best lease length

Date: 22 June 2020   |   Author: Jack Carfrae

Three years and 60,000 miles has been the standard-issue lease term seemingly forever, but it may not be right for everyone. Jack Carfrae asks if shorter or longer contracts make sense.

Anyone reading this will not need telling that three years and 60,000 miles is the industry's
run-of-the-mill lease term.

In reality, the figures are arbitrary; perk drivers typically have three-year contracts, job-need users four, and mileage could easily end up higher, but as a line in the sand, three-year contracts have long been the established standard for company cars.

The default setting is not necessarily the best, though, and fleets may find themselves better suited to shorter or longer-than-average terms - both economically and operationally.

Prior to the government's clarification of benefit-in-kind (BIK) rates in July 2019, many a consultant advocated two years, because nobody knew how much tax they would be paying beyond that.

Yes, the lease rates were comparatively higher, but you at least knew what you were getting, so it made sense to plump for a shorter term.

The industry now has a comfortable five years of visibility on company car tax, but history has taught us the government has no qualms with retrospective faffing about, so there is an argument in favour of shorter commitments to remain lighter on your feet.

"One of the challenges is that users don't want to be caught in a four-year picture with no real confidence that the tax regime they start with could fundamentally change in year three or four, for example," says Mark Jowsey, director of manufacturer liaison at KeeResources.

"Many company car drivers don't trust the government not to change their mind. For example, after we said we were going to lose the 3% diesel surcharge, they changed their minds at the 11th hour, and now we are at 4%. The same applies to RDE2; anybody who selects a car that is RDE2 now knows they are not going to have a diesel surcharge - they are going to pay in-line with a petrol - but if they change the rules of engagement again, it is not going to make people happy."

Jowsey concedes that it is easier for smaller businesses to be flexible with their lease rates and adds that a three-year minimum is more the norm for larger firms, although cautions that it is usually the sensible limit.

"With a three-year term, you are keeping inside [all] manufacturer warranties and, as a general rule, people look after their cars very comfortably," he says. "Beyond that, a car potentially starts to need a bit more attention/can be a bit more difficult to deal with for some brands."

Richard Hipkiss, managing director of Fleet Operations, agrees. "A diligent fleet manager should be looking at the increased cost of downtime later in the lease," he says. "It might look cheap to lease a vehicle over five years but, actually, you get into bigger maintenance jobs with more frequency and that hidden cost of downtime - which you should be measuring - and it becomes a bigger impact and a bigger cost than sending the vehicle back after three years."

Every expert to whom Business Car spoke said the move to electric vehicles (EVs) should be among the biggest influences on how fleets plan their terms - but exactly how you do it is open to interpretation.

David Bushnell, principal consultant at Alphabet, makes the case for shorter leases to keep up with technology. "If you just take the battery capacities - how they have increased, even in the short period of three or four years - you have got to think about how any reduction in lease rates you enjoy by extending the period could be outweighed by a new model coming to the market that has lower CO2 emissions and much more improved battery range or mpg if it is a plug-in hybrid - and do you want to take advantage of that sooner rather than later?"

He claims leasing companies are, these days, more flexible about terms and willing to trim or stretch them according to fleets' needs.

"The great thing now is that you are not locked into the original contract," he says. "There are plenty of opportunities to re-evaluate how it is performing against contract during the life of the vehicle and reschedule it to a phase that may be conducive.

"If you are just about to change into maybe a diesel or petrol then, because there isn't the right [electric] vehicle available just yet, no one says you can't do two-and-a-half or three-and-a-half to take advantage of new vehicles coming into the market a little bit sooner."

Those who do not yet have an EV strategy would do well to pay it some heed when signing new lease contracts. As Bushnell explains, the government's proposed ban on petrol and diesel new car sales is little more than a few typical terms away.

"If we are aiming for a 2032 transition, then that is three blocks of four years - so three changes on a four-year pattern. If you were thinking of changing now, you need to make sure your cycling is in tune with either a 2032 or a 2035 phase, so that you either do two changes or, probably, work it into a three-change cycle."

It makes sense for fleets to deploy EVs as soon as they feasibly can, simply because of the tax breaks. The difficulty is that they remain more expensive to lease. which, according to Hipkiss, can dictate a longer lease to lower the costs.

"Looking at the lease element in isolation, electric cars and hybrids are comparatively more expensive than traditional combustion-engined cars side-by-side," he explains. "The longer the lease, the cheaper the rate, so you are then into the realms of 'are we now looking at four-year leases?' if you bring that rate back into a comparable state with the more traditional fuels.

"We are in that period of flux where you don't want to overcommit on term because of where the technology goes - even though BIK suggests you now can overcommit on the lease term - but at the same time, you want to draw the term out for as long as possible, because you want the lowest lease rate, so it is a bit of a catch-22."

Job-need cars are those most associated with longer terms - typically four years or more - but shorter leases can, in fact, make better financial sense if you order in bulk.

Hipkiss explains: "Organisations should also consider the frequency of the rebates they get from manufacturers and, potentially, through your leasing partners. If you buy, say, 500 Vauxhall Astras every two years, then you are going to get a significant rebate every two years rather than every four. Suddenly, the saving associated with taking a term out until year three or four is negated by that rebate."

Mileage is just as relevant as the length of the contract - and remember that it includes personal as well as business trips, as there is a tendency to forget the former. Excess charges are far from ideal, but, equally, there is no sense in signing up to a conventional 60,000-mile contract if the employee will never get anywhere near that figure.

"I think there is quite a lot of business that could legitimately be done at 45,000 miles, and a three-year would be an improvement in many fleets," says Jowsey.

"Three years at 15,000 miles per annum will actually serve a lot of people very well - even if that meant a little bit of excess mileage - providing they watch that end of contract and make sure it is not too great."

Conversely, very high-mileage drivers are likely to be on two-year contracts, as-per leasing company stipulations.

"If you have got an extremely high-mileage fleet, then you are more likely to be on shorter terms anyway, because the leasing companies won't allow you to run beyond 120/140,000 miles," says Hipkiss.

According to Arval's head of consultancy, Shaun Sadlier, 20,000 miles is actually about the industry average - at least across the company's vehicle parc.

That obviously means there is no shortage of people doing more and less, but if the firm's 160,000-plus fleet is anything to go by, the majority of businesses fall neatly into the standard-issue contract length.

"I did some analysis from our order bank over the last few months," he tells Business Car. "It is interesting that 20,000 miles per annum seems to be the standard mileage, and we have gone back very much towards what is the optimum contract period - particularly in the corporate market. That has gone to anything between 42 and 48 months in a lot
of cases."

Despite this, Sadlier believes that longer leases are the likely immediate future for many fleets - not by choice or tactical planning, but as a result of economically motivated extensions. Fleets will want to quash their overheads in the wake of the Covid-19 crisis, so a situation of mass contract extensions, echoing behaviour last seen during the recession, is far
from unlikely.

"We are hitting a strange situation," he explains, "but I think what fleets are more likely to look for is to how they can extend some of their vehicles that are due for replacement in the next six or so months, rather than going back to a two-year situation.

"It is more likely that contract extensions will occur, because it means they still have the vehicle [and] there is a likelihood that their rental will reduce, which will help their financial position."