How does a novated lease work?

The novated car lease is a smart way to buy your next car. It’s technically a lease, but you get your next car and it saves you thousands of dollars because you pay it all using your pre-tax income. So you still get that dream car as planned - but you save on a whole lot of tax too. Bonus!

How? Ok, picture your total salary. Not just the amount that hits your bank account - that’s your post-tax income. But the whole starting number. Your total salary is the full amount you earn. Then, your employer pays your PAYG tax, and what’s left is the amount you see in your bank account each month. From there, you’re left to pay rent, bills and all the other stuff. And if you own a car, you then have to pay for that too. A novated lease is interesting because it changes the order.

Before your salary gets paid and your superannuation is taken out, your employer first makes your car payments for you and then pays your tax. So your car gets covered by the money that would’ve normally gone to the tax department, thereby lowering your total salary and reducing the amount of tax you need to pay.

A novated lease also lets you include:

• Fuel,
• Servicing,
• Roadside assistance, 
• Insurance, and
• Registration

into that same pre-tax payment, which further reduces your tax bill and leaves you with very few car expenses left to pay. In simple terms: Smaller car payments. Bigger savings. No surprises. That’s where the “savings” reputation of a novated lease comes from - because you get a big tax savings across the term of your lease.

In some cases, people save tens of thousands of dollars (skip to the hard data below). There are a host of savings that make up this amount – pre-tax income, but also avoiding GST on your car and its running costs, access to fleet pricing on a car, and a few others. For more information, check out our article on the benefits of a novated lease.

So why is it called a ‘lease’?

The main reason is that you’re choosing not to buy your car outright and a financier covers the upfront cost of the car, so you’re effectively ‘leasing’ it from the financier until it’s paid off.

Secondly, a novated lease will always leave what’s called a ‘residual amount’ at the end of your lease, and this is effectively the remaining balance that’s left to pay on the car.

The ATO forces novated leases to have a residual to ensure people don’t avoid paying tax completely (which is a shame - we’d all prefer not to). Without this forced limitation, it technically could be possible to pay off your entire car from pre-tax income and, understandably, the ATO can’t allow the waiving of an unreasonable amount of tax. The takeaway from all of this: a novated lease is an incredibly powerful tool for minimising tax.

If you’ve heard of novated leasing and you’re thinking that it all sounds too good to be true, you’re probably hunting for a reliable pros and cons list so you can assess for yourself. So, we’ve gathered the advantages and disadvantages to help you make an informed decision. Why don’t we start with the pros?

The Pro’s: Advantages of a novated lease vs buying outright or a car loan

Novated leases are taken out of your income before tax

As with salary sacrificing on other items, your novated lease payments are taken out of your income before tax, meaning you’ll lower your tax bill at the end of the year.A novated lease also puts extra cash in your pocket through savings in other areas (more on that below), so you can put your savings to work for you in other ways. Whereas buying outright costs a massive amount of money upfront for a depreciating asset that offers you no comparable tax benefits.

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No GST on novated leases

Unlike buying a car outright, with novated leases you can save up to $6,334 in GST. So if the car you’re buying costs under $70,000, then you could get it GST-free! And with a novated lease, you also won’t pay GST on fuel, servicing, insurance, tyres, registration, roadside assistance and any other running costs for your car.It’s just savings on top of savings. A savings parade.

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Novated leases help you get a better deal on your car

Novated lease companies can get you access to fleet pricing – which effectively means fleet prices. Even better, your novated lease provider should be able to get you parts and labour at fleet pricing too, which could save a bundle. You might be able to find this perk if you buy a car outright or take out a standard car loan – but don’t forget that those options will be out of your post-tax income, so won’t have any impact on your tax bill. And one further thing to consider – if you see a low interest rate on car finance at a dealership, be aware that you probably won’t be getting as good a deal as you think. Chances are that the cost of the car is higher to compensate for the enticing low interest rate.

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All running costs are included in a novated lease

This is another area where novated leases really shine - it makes running your car a hassle-free experience. You can choose to include your fuel, servicing, roadside assistance, insurance and your rego in your novated lease package, so you just pay one smooth monthly fee. No bill shock. Easy financial budgeting.It’s optional, so you can still choose to pay for those items yourself. But including it in your novated lease just cuts costs further and maximises your savings.If your novated lease provider is the real deal, they’ll manage all of this for you and keep your budgeting simple and clear so that you don’t have to worry about it.

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Novated leases present plenty of options

At the end of your novated lease, you have lots of options. 

Option #1: Buy your car outright by paying the ‘residual value’

If you love your car and want to own it outright, you simply pay what’s called the ‘residual value’ at the end of the novated lease and then it’s all yours. And as a fun little fact, anything you sell your car for that’s above the residual value is yours to keep - tax free. So if you sell your car for $50,000 and your residual is $20,000, you get to keep the extra $30,000 tax-free!

Option #2: Refinance your lease - but with far smaller payments

Alternatively, if you love your car but don’t want to pay the lump sum residual value, then you can refinance your car at the value of your residual. So your payments will be significantly less going forward, plus you get to keep claiming the many tax benefits and savings on running costs. Win-win.Option

#Option 3: Get yourself a new car

Got your eye on a certain car? Why not trade in your current vehicle at the end of your lease and get yourself into something new? We promise that it’s a super easy transition, and we’ll help you get through it quickly. It’s hard to beat the excitement of a new car - plus we love that new car smell… 

Option #4: Sell your car and live car-free

Decided that car life isn’t for you? No problem at all. You can sell your car, pay off the residual value, and then start using whatever mode of transportation you feel most comfortable with. Plus, that little tax-free benefit we spoke about in option #1 would still apply.These are just some of the advantages. But you’re probably thinking, “What’s the catch?” No worries – let us go through all the cons too, shall we?

The Cons: Disadvantages of getting a novated lease

Your employer is involved in a novated lease agreement

Unlike a standard car loan or buying outright, you need to be comfortable with your employer being involved in the process of salary packaging your vehicle.
This isn’t an issue for most people, but it’s still worth noting.Since a novated lease is deducted from your pre-tax salary, your employer needs to be set up for novated leasing too – and they'll need to approve the provider you want.One big fear is that switching jobs might cause problems, or that it’s difficult to get your employer set up on your chosen novated lease provider. However, with a good novated lease provider, both of these things should be painless and not an issue. You can transfer your payments to a new employer if need be.

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Novated leases are not available for all car options

Novated leasing isn’t available for cars with more than nine seats or cars with a payload capacity of more than one tonne. So if you’ve got more than six kids or need to transfer heavy equipment and machinery, then novated leasing may not be for you.Outside of those exceptions novated leasing has got you covered, so you can do more with lease.

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If you’re living on the edge, there’s a risk with a novated lease

Similar to a standard loan, there’s a risk of losing the car if your job is unexpectedly terminated and you can’t afford the repayments. 
The responsibility of lease payments will be transferred to you whilst you’re looking for another job, and if you can’t pay the lease then you risk losing the car. That said, financiers and good novated lease providers are usually very flexible and understanding and will put solutions in place to avoid this outcome. If you don’t have adequate savings to cover this scenario, and there’s a risk you could lose your job, it’s worth assessing if this is the right product for you.

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There’s more to consider during the lease process

Unlike buying outright, there are probably a few more things to consider with a novated lease. For example, deciding what you want to be included in the package. Bear in mind that a good novated lease provider will not only facilitate the whole process, but also answer any questions and guide you to a solution that works best for you. So if you choose your provider wisely, there’s no reason not to benefit from the considerable savings a novated lease can offer. Now, with all these pros and cons considered, you should hopefully have a clearer view of whether or not a novated lease is a good option for your next car purchase!

The bottom line: Choosing the right option

You need to be sure you choose the option that’s right for you, but novated leases can offer incredible savings that keep a lot of money in your pocket every year.

They also give you a predictable and balanced payment each month for not just your car, but also the car’s running costs. The broad options at the end of your lease, coupled with fleet car prices to get the best deal on the car you want, make them the best of both worlds if you don’t need to own your car upfront. You do need your employer on board, but it’s easy to set them up if they don’t currently offer novated leases (or if they use a different novated leasing provider). You can use our nifty ’suggest us to your employer’ feature.

It can be tempting to think that owning a car outright is the best way to go. Plenty of people avoid loans and leases to avoid costly interest rates and not pay more than the ticket price of the car. However, the largest cost of owning a car is depreciation – the loss in value of the car over time. And whilst traditional car finance can be an inefficient alternative, novated leasing solves most of the challenges that traditional loans create.

Put simply, it’s a new lease on leasing.

Your car is an investment

The simple fact is that, unless you buy a collectable vehicle and put it in storage, your car is going to decrease in value over time - and probably significantly so. A car with a typical rate of depreciation could be worth as low as 40% of its original price after five years. In other words, if you purchase a $100,000 vehicle, then five years later it could be worth just $40,000.

That’s a lot of lost value. And most people wouldn’t argue that on paper it doesn’t look like a wise investment financially. Add operating costs to this equation, and it’s a huge sum to pay for a guaranteed negative return. If someone asked you for $100,000 now in exchange for $40,000 in five years, would you do it? Not likely. But what’s the alternative? Is it always a negative investment to get a car? Not if you consider a novated lease.

How a novated lease compares to other options

Structuring your “ownership” of a vehicle through a novated lease allows you to turn car ownership into a positive financial outcome. A novated lease does this by allowing you to put money that you would otherwise pay in tax towards your car. That alone is a game-changer. It’s like negative gearing an investment property – rather than the tax man getting your money, you use it to pay for and run your car. On top of that, with a novated lease you can access fleet pricing to get a big discount on the price of your car. And as if that’s not enough, you can save up to $6,334 in GST when purchasing the vehicle - plus all of the car’s running costs are GST-free too.

Novated leasing can be the best of both worlds – the same benefits as owning a car, but without the huge upfront outlay (which you can put to better use elsewhere), plus a huge tax saving and none of the drawbacks of a traditional car loan. As you’ve no doubt worked out, a novated lease is very different to an old-fashioned car loan, which adds interest costs onto an already negative situation. By contrast, a novated lease allows you to use the negative aspects of car ownership to obtain a positive tax outcome.

Can you own your car on a novated lease?

If it’s important to you to own your car, it’s worth noting that at the end of your novated lease, you can. All you need to do is pay out the ‘residual’ (the balance remaining on the lease) and it's yours. This residual is almost always lower than the market value of the car, so you can always sell your car instead and pocket any profit you’ve made on the sale, tax-free.

Lease your dream car for less. Talk to us today.

The hard data: cash purchase vs car loan vs novated lease

To illustrate how much more cost effective a novated lease is compared to a car loan or purchasing the car outright, let’s put them side by side and see what it looks like:

This example assumes the following:

• Lease/loan term = 5 years
• $60,000 vehicle purchase price (divided over 5 years at $12,000 per year for ownership calculations).
• A novated lease company (like us at Leaselab) can obtain fleet pricing discounts, in this example we were able to achieve a 15% fleet pricing discount bringing the purchase price down to $51,000
• $464 per month running costs (fuel, insurance, rego, servicing & maintenance, tyres, etc.) approximately 10,000 km per year.
• Car loan interest rate 7.99%
• Minimal business use

Perhaps we should have just started with that, right?

Well, hopefully we’ve given you some serious food for thought. If you’d like to learn more about novated leasing - and in particular which approach would be best for your unique situation - we’re the experts at finding the most cost-efficient novated lease package for everyone’s specific circumstances.

Feel free to give us a call at 1300 888 594 for an obligation-free chat, or you can get in touch. Keep in mind – this is not intended as financial advice. It’s just general information to keep you informed and doesn’t take into account your specific circumstances.