The “Ride-to-Work Scheme” is a popular employee benefit in many organizations that encourages the use of bicycles for commuting. Typically, the employer purchases the bicycle and associated equipment, and the employee pays for it through salary sacrifice. This scheme not only promotes a healthier lifestyle but also provides tax benefits for both the employer and employee. However, accounting for this scheme can be complex, requiring a thorough understanding of journal entries, financial statements, and the implications for payroll.
In this tutorial, we will explore how to account for a ride-to-work scheme, providing detailed journal entries and showing how these transactions affect financial statements.
Understanding the Ride-to-Work Scheme
Before diving into the accounting treatment, let’s first understand how the ride-to-work scheme operates:
- Employer Purchases the Bike: The employer buys the bicycle and any associated safety equipment (e.g., helmets, lights) on behalf of the employee.
- Employee Salary Sacrifice: The employee agrees to sacrifice part of their salary over a specific period, typically 12 to 18 months, to repay the cost of the bicycle. The amount sacrificed is deducted from their gross salary before tax, resulting in tax savings.
- Tax Implications: Since the salary sacrifice reduces the employee’s taxable income, both the employer and employee can benefit from reduced National Insurance contributions.
- Ownership Transfer: At the end of the agreement, the employee may have the option to buy the bicycle at a fair market value or extend the hire agreement.
Accounting Treatment
Now, let’s break down the accounting treatment into manageable steps, using examples to clarify each point.
Step 1: Initial Purchase of the Bicycle
When the employer purchases the bicycle, it is initially recognized as an asset on the balance sheet. Assuming the bicycle costs $1,200, the journal entry would be:
Journal Entry:
| Date | Account | Debit ($) | Credit ($) |
|---|---|---|---|
| Purchase Date | Asset – Bicycle | 1,200 | |
| Accounts Payable | 1,200 |
Explanation:
- Asset – Bicycle: The cost of the bicycle is recorded as an asset.
- Accounts Payable: The liability to pay the supplier for the bicycle.
Step 2: Deducting Salary Sacrifice from Employee
The salary sacrifice arrangement reduces the employee’s gross salary. For simplicity, let’s assume the employee sacrifices $100 per month for 12 months. The journal entry each month would be:
Journal Entry (Monthly):
| Date | Account | Debit ($) | Credit ($) |
|---|---|---|---|
| Month End | Salary Expense | 100 | |
| Salary Payable (Gross Salary) | 100 | ||
| Salary Payable (Employee Deduction) | 100 | ||
| Asset – Bicycle | 100 |
Explanation:
- Salary Expense: Represents the reduction in the gross salary due to the salary sacrifice.
- Salary Payable (Gross Salary): This is the gross salary that the employee would normally receive.
- Salary Payable (Employee Deduction): The amount sacrificed by the employee.
- Asset – Bicycle: The corresponding reduction in the bicycle asset, as the employee effectively “pays” for the bicycle.
Step 3: Payment to the Supplier
When the company pays the supplier for the bicycle, the liability is settled. The journal entry would be:
Journal Entry:
| Date | Account | Debit ($) | Credit ($) |
|---|---|---|---|
| Payment Date | Accounts Payable | 1,200 | |
| Bank | 1,200 |
Explanation:
- Accounts Payable: Reduces the liability owed to the supplier.
- Bank: Cash outflow from the company’s bank account.
Step 4: Monthly Depreciation of the Bicycle
The bicycle is a depreciable asset, and the depreciation expense needs to be recorded monthly. Assuming straight-line depreciation over two years (24 months), the monthly depreciation expense would be $1,200 / 24 = $50.
Journal Entry (Monthly):
| Date | Account | Debit ($) | Credit ($) |
|---|---|---|---|
| Month End | Depreciation Expense | 50 | |
| Accumulated Depreciation | 50 |
Explanation:
- Depreciation Expense: Recognizes the wear and tear of the bicycle over time.
- Accumulated Depreciation: A contra-asset account that reduces the book value of the bicycle.
Step 5: Finalizing the Scheme – Transfer of Ownership
At the end of the 12-month salary sacrifice period, the employee may choose to purchase the bicycle. Let’s assume the fair market value is $100. The journal entry for this transfer would be:
Journal Entry:
| Date | Account | Debit ($) | Credit ($) |
|---|---|---|---|
| End of Scheme | Cash | 100 | |
| Asset – Bicycle | 100 |
Explanation:
- Cash: The employee pays $100 to purchase the bicycle.
- Asset – Bicycle: The bicycle is removed from the company’s assets as ownership transfers to the employee.
If the employee chooses not to purchase the bicycle, the company might retain the asset or dispose of it, depending on company policy.
Impact on Financial Statements
Let’s summarize how these transactions affect the financial statements of the company.
Balance Sheet
The balance sheet will show the bicycle as an asset, which will be gradually reduced through depreciation and salary sacrifice deductions. Initially, the balance sheet might look like this:
Initial Balance Sheet (After Purchase):
| Assets | Liabilities & Equity |
|---|---|
| Bicycle: $1,200 | Accounts Payable: $1,200 |
As the salary sacrifice and depreciation entries are made, the balance sheet will evolve:
Balance Sheet (After 12 Months):
| Assets | Liabilities & Equity |
|---|---|
| Bicycle: $400 | Accumulated Depreciation: $600 |
| Accounts Payable: $0 | Retained Earnings: $600 (Reduced by depreciation) |
If the employee purchases the bicycle, the asset is removed, and the balance sheet reflects the final cash payment.
Income Statement
The income statement will show the depreciation expense each month, reducing the net income. The salary expense will also be adjusted by the amount sacrificed by the employee.
Sample Income Statement (Monthly):
| Revenue | Expenses | Net Income |
|---|---|---|
| $5,000 | Salary Expense: $4,900 | $50 |
| Depreciation Expense: $50 |
This shows that the company incurs regular expenses related to both salary and the depreciation of the bicycle.
Special Considerations
1. Tax Treatment
The tax treatment of the ride-to-work scheme can vary depending on jurisdiction. In many cases, the salary sacrifice reduces taxable income, providing tax benefits. It is essential to consult with a tax professional to ensure compliance with local tax laws.
2. Employee Leaving Before Scheme Completion
If an employee leaves the company before the scheme completes, the remaining balance may need to be settled. This can be handled by a final deduction from the employee’s last paycheck or by requiring the employee to pay the outstanding amount directly.
3. Scheme Limits
There may be limits on the maximum value of bicycles eligible under the scheme. Ensure the scheme complies with legal limits to maintain tax benefits.
Conclusion
Accounting for a ride-to-work scheme requires careful consideration of both the initial purchase and the ongoing salary sacrifice. By following the steps outlined in this tutorial, you can ensure accurate accounting records and compliance with relevant tax laws. The key is to correctly classify the bicycle as an asset, properly account for the salary sacrifice, and regularly record depreciation.
By understanding the journal entries and their impact on financial statements, companies can effectively manage this beneficial scheme. Not only does it promote employee well-being, but it also offers potential tax savings, making it a win-win for both employer and employee.