As investments go, buying a new car isn't great. It will set you back an average of about $40,000, and for the most part, can be relied upon to lose a good chunk of its value each year. For many, leasing has become an attractive alternative to get your hands on the car you want without taking on tens of thousands of dollars worth of debt for a depreciating asset.

There are three main types of car leases in Australia: a novated lease, finance lease and an operating lease. Finance leases and operating leases are only really used by businesses, so those wanting to lease a car for personal use typically take out a novated lease.

This article will explore novated leases – what they are, how they work, and if they’ll work for you. 


In the market for a new car? The table below features car loans with some of the lowest fixed and variable interest rates on the market.

Lender

VariableNew1 year
More details
  • Available for purchasing new and demo vehicles
  • $5,000 to $150,000 loan amount
  • Redraw facility available up to $5000/day
  • Required: Good credit history, stable employment history. Aus citizenship or PR.

New Car Loan - Home Owner Special

  • Available for purchasing new and demo vehicles
  • $5,000 to $150,000 loan amount
  • Redraw facility available up to $5000/day
  • Required: Good credit history, stable employment history. Aus citizenship or PR.
FixedNew99 years
More details
Loan amounts from $2k to $75k
  • Available for any new motorised vehicle
  • No ongoing or early exit fees
  • 1-7 years loan terms. Pay monthly, fortnightly, or weekly
  • Get quick decision. Funds in 24 hrs if approved
Loan amounts from $2k to $75k

New Car Loan

  • Available for any new motorised vehicle
  • No ongoing or early exit fees
  • 1-7 years loan terms. Pay monthly, fortnightly, or weekly
  • Get quick decision. Funds in 24 hrs if approved
FixedNew1 year
More details
Approval within 24 hoursEarly payout available
  • Required: Good credit history, stable employment history. Aus citizenship or PR.
Approval within 24 hoursEarly payout available

New Car Loan - Special (Fixed)

  • Required: Good credit history, stable employment history. Aus citizenship or PR.
Important Information and Comparison Rate Warning

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The comparison rates in this table are based on a loan of $30,000 and a term of 5 years unless indicated otherwise. The comparison rates for car loans and secured personal loans for the relevant amounts and terms are for secured loans unless indicated otherwise. The comparison rates for unsecured personal loans are applicable for unsecured loans only. WARNING: This comparison rate applies only to the example or examples given. Different amounts and terms will result in different comparison rates. Costs such as redraw fees or early repayment fees, and cost savings such as fee waivers, are not included in the comparison rate but may influence the cost of the loan. Comparison rates are not calculated for revolving credit products.

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What is a novated lease?

A novated lease is an agreement between you, your employer and a finance provider.

First, you enter into a lease agreement for a vehicle with a finance provider. You then novate (a fancy word for ‘replace with a new contract’) your new vehicle’s lease to your employer who agrees to make the payments on the vehicle to the finance company on your behalf. Your employer makes these payments from your pre-tax salary, meaning novated leases are essentially a type of salary packaging (some employers allow you to salary package other things like phones and laptops and health insurance). Novated leases fall under fringe benefits, and as a result, incur Fringe Benefits Tax (FBT), but we'll get to that.

One of the big reasons novated leases are popular is the tax benefits they provide. Since your employer makes the car payments from your pre tax salary, your taxable income will be significantly less, hence lowering your tax bill.

What is the fringe benefits tax?

Here's where things get difficult. First of all, a fringe benefit is something extra, like a perk an employer offers that supplements your wage or salary, and is made available to you via salary sacrifice. Research from Melbourne Institute found in 2017, 15.9% of employees reported having a salary sacrifice arrangement and 17.0% reported receiving non-cash benefits. They are the kind of things businesses use to retain and motivate staff.

Some examples of fringe benefits are: 

  • A company car (via a novated lease)
  • Gym membership
  • Private health insurance
  • Entertainment expenses - food, drink, accommodation
  • Living-away-from-home allowance (LAFHA) 

These perks don't always come for free. As we've mentioned earlier, the novated lease comes out of your pre-tax salary. You then get taxed less but your employer may have to pay a fringe benefits tax (FBT) - unless they're a not-for-profit organisation such as a charity or a public hospital and the value of the benefits provided do not exceed a certain threshold (e.g. up to $17,000 for public and non-profit hospitals, up to $30,000 for registered charities and other non-profits).    

If your employer is subject to FBT, be aware that it might pass this expense on to you by paying you a smaller salary or be less inclined to give you a pay rise in future. Also, if the taxable value of certain fringe benefits you received (typically 20% of the base value of the car) in an FBT year* exceeds $2,000, the grossed-up taxable value (aka the reportable fringe benefit, which is the taxable value multiplied by the lower gross-up rate, 1.8868 at the time of writing) will be reported on your income statement for the relevant financial year, even if your employer is exempt from FBT. This doesn't mean the reportable fringe benefit will be included in your taxable income, but it may be included as assessable income for the purpose of calculating things like the Medicare levy surcharge (MLS), specific tax offsets, private health insurance rebates or student loan repayments (e.g. HELP).

For example, Max Dout earns a taxable salary of $85,000 and has a novated lease with an annual reportable fringe benefit of $10,000. He does not have health insurance. At the time of writing, adults earning between $90,000 to $105,000 that do not hold an eligible level of hospital health insurance coverage are subject to a 1% MLS. Max may think he's safe from paying that since his taxable income is less than $90,000. Poor guy. His assessable income for MLS purposes is actually $95,000 (taxable income of $85,000 + fringe benefit of $10,000), meaning his MLS liability for the financial year would be $950 (1% of $95,000).                          

*Fringe benefits tax is obviously so straightforward the ATO decided to make things just a bit more confusing, by making it have a completely separate financial year to the normal financial year. The FBT year is April 1st to 31st March. 

For any further tax information, check out the ATO’s page on fringe benefits tax or speak to a qualified tax professional. 

Types of novated leases

There are two main types of novated leases – fully maintained and non-maintained. This will normally be at your employers discretion, so could be out of your hands.

Fully maintained novated lease

This agreement allows you to package all the operating costs of your vehicle as part of your salary sacrifice agreement. 

Operating costs that can be packaged may include:

  • Your repayments
  • Fuel (typically via a fuel card)
  • Services and maintenance
  • Registration
  • Tyres
  • Insurance

Of course, packaging all or some of these things into the agreement means you’ll have even less take-home pay, especially since owning a car is so expensive these days. But this does take away the stress of having to incorporate any vehicle expenses into your weekly budget while also increasing your tax break.  

Non-maintained novated lease

Also known as a finance-only novated lease, you the employee are responsible for all the vehicle expenses and maintenance. Only the cost of your lease (and perhaps any FBT) can be deducted from your salary package. As an employee, this might not be in your best interests as you’re only getting a tax break on your lease payments. But it does mean you’ll likely have a higher take-home pay to help manage some of life’s other big expenses. 

What happens at the end of the lease?

There are several options available to you when it comes to the end of your lease:

  • You can extend the lease on your existing car, which would probably end up costing you money, due to the car’s depreciation and the further fees associated with setting up another agreement
  • You can keep the car after paying the residual value, also known as the balloon payment
  • You can trade-in the car and then lease another car

Novated lease residual value

Set out by the ATO in 2002, this is the minimum residual value of a vehicle, accounting for the depreciation of a leased vehicle over the years. You can find the ATO novated lease residual guildelines in the table below, which are based on an effective life of eight years. 

Term of lease Minimum residual value
Year 1 65.63%
Year 2 56.25%
Year 3 46.88%
Year 4 37.5%
Year 5 28.13%

Case study 

novated lease case study

Photo by Blake Barlow on Unsplash

Let's meet Calvin, who just got a position as a doctor in a public hospital which offers novated leases. With his new $100,000 p.a salary, he decides to lease a brand new Toyota Corolla. 

The car has a base value of $25,000. He will lease it for four years and will be restricted to driving it 10,000 kilometres a year, just enough for him to get to and from work and buzz around town. His lease payments work out to being $900 per month ($10,800 per year), which includes insurance, fuel and maintenance costs.

All of Dr Calvin's lease payments are deducted from his fortnightly paycheck, so are not subject to tax (in reality, novated lease payments are often made with a combination of both pre-tax and after-tax dollars). This brings his taxable income for the year down from $100,000 to $89,200 ($100,000 minus $10,800).

Assuming Dr Calvin has no other income, his total tax bill for the 2018-19 year would be $20,537 plus a medicare levy of $1,784. Had his taxable income been the full $100,000, his total tax bill for the 2018-19 year would have been $24,497 plus a medicare levy of $2,000. 

So, by leasing a car with his pre-tax income, Dr Calvin has reduced his annual tax bill by $3,960 and his Medicare levy by $216. Combined, that's an annual reduction of $4,176.

You might have done some quick maths reading this, and are wondering why Calvin would pay $43,200 over the four years for a car worth $25,000. Now though, you'll want to subtract his annual savings in tax from this amount (assuming his salary remains consistent). If he saves $4,176 per year on tax, that's $16,704, so the cost works out to be $26,496.              

           

Speak to a qualified financial planner for a more realistic breakdown of how much you could save. 


Novated lease pros and cons 

Novated leases can be a pretty tricky subject at times, and like most financial products they’re far from perfect. Here at the various pros and cons of novated leases. 

What are the advantages of a novated lease?

  • Tax benefits: the main advantage of a novated lease is that payments are coming out of your pre-tax salary. If you’re in a fully maintained novated lease, you’ll also have all of your vehicles expenses coming out of your pre-tax salary too. This means a decreased taxable income.
  • Freedom to choose: You get to choose what car you want to drive and how long for. Employers and finance providers will generally be flexible on lease lengths so you could be driving the latest Audi every three years in theory. 
  • Stress-free repayments: Bundling all the payments into one sum, which is deducted before you’re even paid, removes the stress of accounting for your vehicle in your budget. These repayments are also fixed for the entirety of your lease.
  • Maintenance: Maintenance costs will typically be bundled into your pre-tax payment.
  • Transferrable lease: If you change jobs at any point in your lease you could simply enter into another novation agreement with your new employer (should they offer it- see disadvantages).
  • Avoiding GST: As you haven’t purchased the vehicle and the finance company is leasing it on your behalf, you avoid paying any GST. 

What are the disadvantages of a novated lease? 

  • You don’t own the car: You can’t make modifications to the car and you can’t claim it as an asset for financial purposes. 
  • Driving restrictions: Many novated leases will have restrictions on how long you can drive your vehicle. For example, your employer might restrict you to 20,000km a year, as a way of reducing wear and tear. A breach of this will attract extra costs.
  • Leaving early: If you decide to abandon your lease before it’s due to end, you’ll be required to pay the remaining lease plus the residual value. 
  • Losing your job: If you lose your job your novated lease will become a consumer lease. You’ll now be paying for the lease out of your post-tax salary, losing the tax break that made the novated lease attractive. This will also be the case if you take your lease to a new employer and they don’t offer salary sacrifice.
  • Interest rates and fees: the interest rates on novated leases can often be higher than a standard car loan, and they can also come with high administration fees
  • More expensive in the long run: If you lease a car for an extended period of time, it could work out more expensive than just buying the car outright. Take Calvin for example, who still ended up paying more over the four years than the value of the car.

Is a novated lease worth it?

Novated leases are a pretty complex subject and it’s important not to rush into one simply because of the tax break they provide. 

Although they might sound good in theory, there are many dangers associated with leasing a car and it’s important to weigh up whether financing or buying a vehicle is a better option. If you were to lose your job or crash your car you could find yourself in serious financial strife. 

If you think you might in a position where a novated lease is for you then consult with a financial adviser before going to your employer.

This article was originally written by Alex Brewster in 2019, and updated by Harry O'Sullivan in March 2023.