Novated Leasing: Everything you need to know

Cars, infamously, are the second-largest purchase that most of us make in our lifetimes, and one of the very few things we're willing to go heavily into debt for, which is what makes the idea of novated leasing so attractive, once you've worked out what it is.

Yes, it does sound like the sort of thing your financial adviser starts talking about just before you start nodding off, but the fact is that it can take the pain out of car ownership, and the ownership part as well, effectively.

In an ideal world, you'd have access to the car you want and pay nothing for it, but you're not a wizard or a celebrity, so a novated lease, which can reduce the amount of money coming out of your pocket and put you in shiny new cars more often.

What is a novated lease?

Basically, a novated lease brings a handy and financially helpful third party into the car-car-purchasing arrangement, with your employer joining you and the seller in a kind of ménage-a-car. While this can save you money in the long run, it's a bit hard to get your head around at first, because what you're basically being asked to do is to pay for something you won't every actually own. Hence the "lease" part.

On the plus side, the word "novated" sounds suspiciously like something to do with tax and accountants, and it is; the good news being that it can actually help you access some money that might otherwise be tax.

Essentially, a novated lease means that your employer is a party to your purchasing agreement, and allows you to pay for your vehicle as part of your salary package (handily saving them some money as well), by paying your car payments for you out of your pre-tax earnings.

Your income tax is then calculated on your now reduced salary, meaning you have more disposable income.

One final tax bonus is that you don't have to pay GST on the purchase price of a car when you're not buying it, which lowers the cost by a further 10 per cent.

How does it work?

Typically, you're leasing a car for a set period of time - usually at least two years, but sometimes three or five, and at the end of that period you can either trade up to a new model, and sign a new lease (which means you're never stuck with an old or uncool car for too long), or, if you've fallen deeply in love with your vehicle, you can pay a pre-determined fee to buy it and keep it.

This is often referred to as a "balloon payment", possibly because it blows up to a number larger than you'd first believe possible.

To compare a novated lease with the more typical approach of taking out a car loan and just buying a car, consider that your loan would be paid entirely out of your post-tax dollars, what you get in your bank account every week, after tax is cruelly removed.

With a novated lease, you're paying out of that lovely, theoretical money you've heard about as your 'salary', so you've got, essentially, more money to play with.

What you have to get your mind around is that you're not renting a car, or borrowing one, you are leasing it; paying down the amount of it you own, but realistically, if you prefer, never completely paying it off, which means you can regularly turn over your vehicle, and change brands, styles, sizes as you wish.

A KPMG spokesman explained it perhaps as succinctly as only an accountant could: "A novated lease involves yourself, your fleet provider and your employer. It allows an employer or a business to lease a vehicle on behalf of an employee, with the payments the responsibility of the employee, rather than the business.

"The difference between a novated lease and normal finance is that your vehicle payments include all running expenses, and are taken from your pre-tax salary, so regardless of what scale of tax you pay, there's always going to be a benefit."

If you are an employer, of course, the bonus is that you become a more attractive boss, by offering novated lease salary packaging to your employee that costs you nothing. This makes you what Novated Leasing company MotorPac likes to call "an employer of choice", meaning your workers will love you and want to keep working for you.

How much do you save?

Some companies offer a handy novated car lease calculator that allows you to work out exactly how much you'd save, depending on variables like the length of the lease, your income and your choice of car.

Over at other websites there are some specific examples, to make the whole thing a bit clearer. Adam, 26, is a painter earning $60,000 a year and is leasing a ute for three years, with a 20,000km-per-year allowance.

His pre-tax vehicle cost is $7593.13, thus reducing his taxable income to $52,406.87. This lowers his payable tax each year from $12,247 to $9627.09, which means he now as annual disposable income of $34,825.08 instead of $31,446, meaning his "Novated Advantage" is $3379.

Slightly higher up the range, Lisa, 44, has an SUV on novated lease which she uses for a mix of work and family duties, for three years at 15,000km a year. She earns $90,000 a year, and, after reducing her taxable income with a pre-tax vehicle cost per annum of $6158.90, she has a Novated Advantage of $3019.

Obviously, the figures change a lot depending on your circumstances, and how expensive the car you want to have through a novated lease is, but the advantages, tax wise, are quite clear.

Are there any disadvantages?

There is no such thing as a perfect deal, of course, and there are potential pitfalls to keep in mind with a novated lease. If you lose your job, for example, you might have to get your new employer to take over the novated lease, or you might have to terminate the lease and pay out what's owing, and you might be stuck with additional charges.

Novated leases will also often come with administration fees, and you're likely to be paying a higher interest rate on a novated lease vs car loan.

In the end, while it's wise to use a novated lease calculator and to do your sums, it's in your best interests to discuss getting a novated lease with your accountant, who can best advise how much benefit there is for you, depending on what tax bracket you're in.

Have you tried a novated lease, and did it work out for you? Tell us about it in the comments below.