If you’re looking for a way to finance a car, a novated lease lets you use your pre-tax income to cover the cost of the vehicle lease and reduce your tax.
What is a novated lease?
A novated car lease is an agreement between you, your employer and a third-party financier whereby you take out a lease and your employer takes the lease repayments and operating costs out of your pre-tax income. While the responsibility for these repayments is still yours, it is your employer who will make these payments.
There are a number of novated lease companies in Australia, and many traditional lenders will also offer a novated lease option.
What types of novated leases are there?
Novated operating lease. This type of lease allows you to use the vehicle for the duration of the lease, and at the end of the lease, you have no further obligations. You also have no further access to the vehicle. The vehicle will be inspected on its return and it must be in good condition, apart from normal wear and tear.
Novated finance lease. This type of lease requires you to guarantee upfront the residual value of the vehicle. At the end of the lease term, if the valuation is less than the agreed residual value, then you will be responsible for the shortfall. Note that it will be you and not your employer who will need to pay this.
Fully-maintained operating lease. A fully-maintained lease involves all of the vehicle's operating costs being included in the salary package.
Non-maintained operating lease. Under this type of lease, you will be responsible for the operating costs of the vehicle, including maintenance and running costs. Only the lease repayments will come out of your pre-tax income.
Budgeted finance lease. This is an option offered by some financiers that allow you to budget for your maintenance expenses and set limits for the amount you'd like to spend.
Benefits of a novated lease
For the employee
Cost and tax benefits. You can use your pre-tax income to cover some of the costs of the lease. You may also benefit from corporate fleet discount programs that can reduce the retail price of a vehicle.
Easy loan management. As the lease payments and, depending on the option you choose, car running costs, come straight out of your salary, you don’t have to worry about budgeting and managing them yourself.
Vehicle options. You can finance a range of vehicles with a novated lease, including both new and used vehicles.
After-lease sale benefits. If you decide to sell your vehicle after the lease is up, any profit from the sale will be tax-free.
No usage restrictions. There are no limitations on the way you use the vehicle, and you can use it for business or personal use as much as you like.
For the employer
A way to offer incentives. A novated lease is a way to incentivise employees with little expense to your business.
Limited risk. You won’t be responsible for the vehicle if your employee leaves before the lease is up.
Not attached to the business. Novated leases are not considered an asset or liability of the business.
You don't need to arrange a company fleet. Novated leases are a way for your employees to access discounted vehicle leasing through your company without the burden of your business managing a company fleet.
How does a novated lease work in terms of tax?
One key benefit of a novated lease is that you don’t have to pay GST. As the vehicle is sold to the financier and then leased to you, they are liable to pay the GST on the vehicle, but they are able to pass this GST on to the tax office.
In terms of the other tax options, this depends on the method you choose. There are two methods you can opt for when taking out a novated lease: the Fringe Benefits Tax method or the Employee Contribution Method.
Fringe Benefits Tax
When you choose this method, the entire amount of your lease payments is deducted from your pre-tax income, saving that portion of your salary from income tax. However, since your employer is providing you this lease as a benefit, the lease is subject to Fringe Benefits Tax (FBT), which you are responsible for. FBT is calculated using the Statutory Formula method and based on the distance you’re likely to travel during the "FBT year", which runs from 1 April to 31 March.
There is also a "days not available" option which involves your FBT being reduced when your vehicle is unavailable for travel. This may be because your vehicle is in for repairs, you leave your vehicle on company premises or lend the vehicle to an authorised person for a whole business day.
In May 2011, the government introduced transitional rules regarding the calculation of cars using FBT using a standard statutory rate of 20%. Financiers help you track and calculate your ongoing FBT obligations in accordance with ATO guidelines. Most financiers will offer something like a fuel card that can track your fuel usage over the year.
The Employee Contribution Method
This method involves both pre-tax and post-tax deductions from your income. There are benefits to this method, particularly if your salary is below $180,000. If you contribute part of your post-tax salary, you can reduce the rate of FBT from 46.5% to your own marginal income tax rate, which might be as low as 30%, depending on your income. This can ultimately reduce the cost of salary packaging your vehicle. This option is available to both fully-maintained and non-maintained novated leases.
How to arrange a novated lease
While there are more tax and monetary considerations when it comes to novated leases, the process is not complicated as long as you choose the right financier. Here is the typical process that you can expect:
Step 1. Shop around for a vehicle and get a quote. Ensure that the quote lists all options including projected operating costs, vehicle options and the vehicle cost.
Step 2. Estimate how many kilometres you’ll be travelling over the course of a year. You can do this by tracking your usage over a normal week and factoring in holidays and other times when you might use your car more.
Step 3. Decide if you want a fully maintained or non-maintained novated lease.
Step 4. Contact your company’s financial consultant and discuss your options. Together, you can prepare an estimated salary package, which you can sign when you’re happy with it.
Step 5. Compare your novated lease options and apply with your chosen provider.
Step 6. Provide your car dealer’s details to your financial consultant so that the Novated Lease Agreement can be prepared and signed.
Step 7. Compare your comprehensive car insurance options and apply for your chosen provider. Then get your cover approved by your financial consultant.
Step 8. Your financial consultant will organise payment to the dealer, and if you have a fully-maintained novated lease, then they will also organise payment to your insurance provider as well.
Step 9. You can collect your vehicle and receive your fuel card from your financier, so you can start using your car.
Frequently asked questions
What types of vehicles can I finance with a novated lease?
There are really no restrictions as to the type of vehicle that you can finance. In some cases, you may even be able to use a vehicle that you are already paying off. Vehicles can also be new or used.
What happens if my employment is terminated?
If your employment is terminated, you may be able to take your novated lease with you to your new employer. You may also be able to continue making repayments directly to your financier, or you may be able to terminate the lease early and pay it out.
How long do novated leases take to establish?
This depends on the financier you go with, although it will generally take approximately two weeks to a month.
Is a novated lease worth it?
This will depend on your financial and employment situation, but a novated lease will help you reduce your taxable income and therefore the amount of tax you pay. If you really need the money you save on tax, then a novated lease could be worthwhile. However, you should also speak to an accountant to determine what your potential savings will be since this will depend on which tax bracket you fall under as well as how much you use the vehicle.
What are the disadvantages of car salary packaging?
While a novated lease may be a suitable option for you, there are a number of potential disadvantages to keep in mind. You will generally need to pay administration fees as part of the lease, and you may also receive a higher interest rate than on a normal car loan. If you change employment during the term of the lease, you may also have to pay additional fees or charges and may have to cancel the lease altogether.
Can you get a novated lease for a used car?
Generally yes. However, some providers may only offer novated leases on new cars or require the used car to be less than a certain number of years old.
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Matt Corke is Finder's head of publishing for rest of world and New Zealand. He previously worked as the publisher for credit cards, home loans, personal loans and credit scores. Matt built his first website in 1999 and has been building computers since he was in his early teens. In that time, he has survived the dot-com crash and countless Google algorithm updates.
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