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A novated lease can be an incredibly cost-effective way to finance a car.
Why is novated leasing so popular?
06 October 2021
•
3 minute read
In the right circumstances, salary packaging a vehicle can benefit both the employee and the employer, but there are certain requirements to maximising these benefits.
In this article, we’ll discuss the unique aspects of a novated lease and the accounting considerations required to ensure all parties are kept happy.
The 3-way agreement
First, let’s cover off what happens at the start of the lease. When establishing the lease:
- The employee agrees to have payments deducted from their gross salary.
- The employer agrees to be responsible for making payments to the leasing company from the employee’s pre-tax salary.
- The leasing company agrees to procure the vehicle, establish the lease and manage contractual and compliance aspects of the lease.
The leasing company will also set out the residual value for the vehicle, and determine the estimated operating costs if the lease is fully-maintained. We’ll look at these next.
Residual Values
Residuals are a lump-sum amount determined at the beginning of the lease and repaid as a final payment upon termination of the contract.
The residual amount on your novated lease will vary, and shorter terms will have higher residuals attached:
|
Term (years) |
Percentage |
|
1 |
65.63% |
|
2 |
56.25% |
|
3 |
46.88% |
|
4 |
37.50% |
|
5 |
28.13% |
(source: https://www.fleetcare.com.au/news-fleettorque/novated-lease-residual-value-explained-(1))
A residual can be repaid to retain full ownership of the vehicle by the employee, although in some cases they may prefer to simply trade in the vehicle to clear the residual.
Employee Payments, FBT and ECM
Novated leasing allows the employee in the agreement to make payments on the vehicle from their gross salary.
The Employee Contribution Method (ECM) is typically utilised for the salary packaging agreement. This enables an employee’s after-tax salary to cover some of the leasing costs to eliminate FBT, thus ensuring a substantial portion of the leasing costs are deducted pre-tax for the employee.
Running costs included in a fully-maintained lease may include:
- Vehicle registration and insurance
- Fuel and servicing
- Repairs and replacement parts
- Roadside assistance and other optional expenses.
FBT is generally calculated at a statutory rate of 20 per cent of the cost of the vehicle, and the employee will make payments from their post-tax salary to reduce their FBT liability entirely - every dollar paid from their net salary reduces the liability by an equal amount.
GST savings
Lastly, as with other common types of vehicle finance, a novated lease can be used to acquire a vehicle without financing GST on the initial purchase price.
This can save a considerable amount of money, and is one of only a few ways an employee can acquire a vehicle and avoid GST (and where the vehicle is also able to be freely used as a personal vehicle).
An increasing popularity nationwide
As our working world evolves, so does the popularity and appeal of novated leasing. Employers are able to offer an incentive to employees, who in return are able to receive incredible tax benefits while essentially owning a private and business vehicle.
With the right accounting approach and effective use of the ECM to reduce FBT entirely for employees, a novated lease is undoubtedly one of the most cost-effective ways to acquire a vehicle in Australia today.
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