Funding purchase grants for zero emission cars in a growing UK market

Electric cars are a key technology for decarbonising vehicles and UK sales have been growing steadily year on year. In 2018, there were 15,500 sales of battery electric vehicles (BEVs) in the UK which is expected to at least double in each year to 2021 by which time around 125,000 BEVs will be sold. The increase in sales arising from the need for manufacturers to meet regulatory targets to lower new car CO2 emissions and avoid high penalties and the significant reputational risks of failing to comply. To ensure targets will be met carmakers are launching large numbers of new BEVs and PHEVs and investing in significant new production capacity.

To encourage the shift to ultra low and zero emission vehicles the UK has provided plug-in grants to support their higher purchase price. The scheme was introduced in 2011 and is currently scheduled to end in March 2020. The ending of grants for PHEVs in 2018 (following concerns they were not charged regularly or used in electric mode) caused a significant weakening in their sales that dropped from 2.4% of new car sales in Q4 2018 to 1.5% in Q1 2019. The cutting of the grant for BEVs by £1,000 to £3,500 also temporarily caused a small drop in sales of these models. It is therefore clear that if grants are discontinued in 2020 this is likely to create a significant market disruption at the moment carmakers need to sell these vehicles to meet targets and avoid fines.

The rise in sales of BEVs is making the plug-in cars grants prohibitively expensive for the Treasury. Assuming the grant is retained at its current level the cost of the scheme is estimated to rise significantly from £115 - 133 million in 2019 to £175 - 306 million in 2020; £350 - 613 million in 2021; and £885 - 1600 million in 2025. To maintain the affordability of the plug-in grants it is proposed to fund these through a registration tax on new cars with engines (replacing the first year VED tax). With the proposed scheme: ZEVs would continue to receive a grant of £3,500; PHEV would not be taxed or receive a purchase grant; registration of cars with engines would incur a tax that would rise according to the CO2 emissions of the vehicle. The minimum initial tax would be £250 and maximum tax £2000. Each of these criteria could be adjusted over time. Such registration taxes would increase the incentive to shift to a ZEV and send a clear message to car buyers that if they choose zero emission The Government will help them; but the more polluting car the more tax they will pay. Such simple messages can incentivise and nudge new car buyers more effectively than the current arrangements. The scheme is modelled on the French Bonus-Malus tax that has successfully operated since 2008. The costs and revenues of such a tax scheme have been estimated and overall the scheme would generate higher revenues than the current 1st Year VED but are not so high as to significantly lower overall sales of new cars. The additional revenues earned could also be used to support charging infrastructure and electricity grid upgrades.