Contract Hire Explained

Contract hire is a widely used way to fund a car or van in the United Kingdom, for both businesses and private drivers. This guide explains what contract hire is, how it works, what it costs, and how it is treated for tax, so you can decide whether it suits you.

Key takeaways

• Contract hire is a long term rental. You pay fixed monthly rentals to use a vehicle for an agreed term and mileage, then hand it back. You never own it.
• Monthly rentals are usually lower than the equivalent finance agreement, because you pay for the vehicle’s fall in value over the contract, not its full price.
• Road tax for the term and the manufacturer warranty are included, and maintenance can be added as an option.
• For businesses the tax treatment is clear: part of the Value Added Tax (VAT) on car rentals can be reclaimed, the rentals are an allowable business expense, and there are set rules for company car drivers.
• The two things to get right are your annual mileage and returning the vehicle in good condition, as both affect what you pay at the end.

What is contract hire

Contract hire, sometimes called leasing, is a rental agreement between you and a finance provider. You choose a vehicle, agree a contract length (typically two to four years) and an annual mileage, and pay a fixed monthly rental to use it. At the end of the term you return the vehicle. There is no option to buy it and no large final payment.

Because you pay for the use of the vehicle rather than buying it, the monthly cost reflects how much the vehicle is expected to fall in value over your contract, plus interest and any included services. That is why the monthly figure is usually lower than buying the same vehicle on finance.

Contract hire comes in two forms:

• Business Contract Hire, for companies, sole traders and partnerships, quoted excluding VAT.
• Personal Contract Hire, for private individuals, quoted including VAT.

How contract hire works

1. Choose the vehicle and terms. You pick the make, model and specification, then set the contract length and annual mileage.
2. Pay an initial rental. Most agreements start with an initial payment, often the equivalent of a few monthly rentals. A larger initial rental lowers the monthly figure.
3. Pay fixed monthly rentals. The amount is set for the whole term, so your budgeting is predictable.
4. Use the vehicle within the agreed mileage. You drive it as your own for the length of the contract.
5. Hand it back. At the end you return the vehicle. As long as it is within the mileage and in a fair condition, there is nothing more to pay.

What is included

A standard contract hire agreement includes:

• Road tax for the full term.
• The manufacturer warranty, which usually covers all or most of a typical contract.
• Delivery of the vehicle.

Servicing, maintenance and tyres are not automatically included, but you can add a maintenance package for a fixed extra monthly amount. This covers routine servicing, replacement tyres and repairs from fair wear, which keeps your motoring costs predictable.

Contract hire and tax for businesses

Contract hire is popular with businesses because the tax treatment is straightforward. This is general information, not tax advice. Rates and thresholds are set by the government and change, so confirm the current position with HMRC or your accountant before you decide.

Value Added Tax. If your business is registered for VAT, you can normally reclaim 50 per cent of the VAT on the finance element of a car rental. The 50 per cent block reflects the private use most cars have. Where a maintenance package is taken and the maintenance is separately identified, the VAT on that element is usually fully reclaimable. For vans and other commercial vehicles used for business, the VAT is generally fully reclaimable.

Corporation tax. The rentals are an allowable business expense and reduce your taxable profit. For cars there is a restriction based on carbon dioxide (CO2) emissions: for a car emitting more than 50 grams of CO2 per kilometre, 15 per cent of the rental is disallowed, so 85 per cent is deductible. A car at or below 50 grams has no restriction and the full rental is deductible. This makes lower emission and electric cars more efficient to lease through a business.

Company car tax (Benefit in Kind). If a business car is available to an employee or director for private use, they pay Benefit in Kind (BIK) tax. It is based on the car’s list price and a percentage set by its CO2 emissions, with plug in hybrids also affected by their electric range. Fully electric cars attract a low rate: for the 2026/27 tax year it is 4 per cent, rising by one to two percentage points a year in the following years. Petrol and diesel cars sit much higher. Because the rate is set by emissions, an electric company car can carry a fraction of the tax of a comparable petrol model. Confirm the current year’s rate before deciding, as it is set by the government and changes over time.

On or off the balance sheet. How the agreement appears in your accounts depends on the accounting standard your business follows, so it is worth a word with your accountant when you take the vehicle on.

Who contract hire suits

Contract hire tends to suit you if you:

• want a new vehicle with predictable, fixed monthly costs,
• like to change your vehicle every few years,
• would rather not carry the risk of what a vehicle is worth when you come to sell it,
• and can estimate your annual mileage with reasonable confidence.

It is less suitable if you want to own the vehicle at the end, cover a very high or unpredictable mileage, or need to keep a vehicle for many years.

Mileage, condition and handing the car back

Two things decide whether you have anything to pay at the end of a contract hire agreement.

Mileage. You agree an annual mileage at the start, and the rental is priced around it. If you go over, you pay an excess mileage charge, a set pence per mile stated in your agreement. It is better to estimate your mileage honestly at the outset than to understate it and pay more later. Most providers will let you adjust the agreed mileage during the term if your driving changes.

Condition. The vehicle should come back in a condition that is fair for its age and mileage. The industry uses the British Vehicle Rental and Leasing Association (BVRLA) fair wear and tear standard, which sets out what is acceptable and what would be chargeable. Keeping the vehicle serviced and dealing with any damage before you return it avoids end of contract charges.

Frequently asked questions

Do I own the car at the end of a contract hire agreement? No. Contract hire is a rental, so you return the vehicle at the end. If owning the vehicle matters to you, a product such as hire purchase or personal contract purchase would suit you better.

Can I end a contract hire agreement early? You can, but there is usually an early termination charge, often based on a proportion of the remaining rentals, so it is best to choose a term you are confident you can see through.

Is contract hire cheaper than buying? The monthly cost is usually lower than financing the purchase of the same vehicle, because you fund the vehicle’s fall in value over your term rather than its full price. Whether it works out cheaper overall depends on how long you would otherwise keep the vehicle and what it would be worth when you sold it.

Can I add servicing and maintenance? Yes. A maintenance package can be added for a fixed monthly amount, covering routine servicing, tyres and repairs from fair wear, which keeps your costs predictable.