Aren't all car loans bad? Why the novated lease is different

How a novated lease works

The novated lease is considered by some to be a savvy investment, even though it’s effectively renting. It’s a lease, but it actually has merit as a money saver. Picture your gross income. Not the amount that hits your bank account – that’s your post-tax income. Your gross salary is the full amount you earn. Then, your employer pays your tax obligation, and what’s left is the amount you see. 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: after super is taken out, your employer first makes your car payments for you, and then pays your tax. So your car gets covered by money you otherwise would never have seen, thereby lowering your taxable income, so you pay less tax. Then, of course, you don’t have any car payments to make. A novated lease let’s you roll your fuel, roadside assistance, insurance, rego and servicing costs into the single payment your employer makes from your salary, so you literally could have very little car-related to pay from your net (post-tax) salary.

Bumper tax savings

Back to the “savings” reputation of a novated lease – what this all means is that you get a potentially very large tax saving across the term of your lease. In some cases, people save tens of thousands (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 running costs, access to wholesale pricing on a car, and a few others. Check out our benefits of a novated lease article for more detail.

So why a lease?

Your next question is probably, ‘so why do they call it a lease?’. Well, the main reason is that you’re choosing not to buy your car outright and a financier does put up the money for your 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 to pay on the car. The ATO forces novated leases to have a residual to limit capital advantage and ensure people don’t avoid tax completely, as they could in some cases. Without this forced limitation, it technically could be possible to pay off your entire car from pre-tax income and it’s obviously understandable that the ATO can’t allow waiving of an unreasonable amount of tax. 

The takeaway from all of this: the novated lease can be an incredibly powerful tool for minimising tax.