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Salary packaging a car

Written by

Shaun McGowan

Salary Packaging is the term used when an employee agrees to have deductions made from their salary to finance a vehicle for their personal use.

Salary packaging a vehicle is one of the easiest and cost-effective ways for employees to acquire their own car.

Instead of just including temporary use of a company vehicle in your contract, salary packaging is a way to both reduce the amount of income tax you might have to pay, and provide full ownership and use of a vehicle.

How does it work?

When you salary package a car, you’ll make a three-way agreement between your employer, and a leasing company (who provides the car):

  • You agree to have payments deducted from your salary.
  • Your employer agrees to be responsible for making payments to the leasing company from your salary.
  • The leasing company will acquire the vehicle and provide it to you, while also establishing and managing all the technical aspects of the lease.

Paying off your car works just like a normal car loan or personal loan:

  • You’ll agree to make payments for a set period of time (usually three years)
  • Payment will be deducted regularly until the end of the term
  • If you choose to include a residual amount with your loan, you will pay this at the end of the term before receiving full ownership.

Why salary package a car instead of a car loan?

The main benefit of salary packaging a car is using the payments made through your salary to reduce your total taxable income. In the right circumstances, you may even be able bump yourself down to a lower tax bracket.

The other huge benefit of salary packaging a vehicle is in the purchasing process - as the leasing company procures the vehicle, you will not pay GST on the initial purchase price of the vehicle

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Reducing your tax obligations further

The other consideration when salary packaging a vehicle is in how you plan to pay for its operation and servicing. With a normal car loan, you’ll be responsible for these yourself, and often can’t gain much back from these ongoing expenses.

However, if you salary package a car with a lease, you can often get a “fully-maintained lease” (i.e. includes all operating costs).

The leasing company will estimate running costs for the vehicle, which are included in regular lease repayments. Running costs include everything you might pay for in relation to the vehicle’s use throughout the term, such as:

  • Registration
  • Insurance
  • Servicing costs
  • Replacement tyres
  • Petrol Costs
  • Vehicle repairs

Better still, you can reduce your tax obligations even further using Fringe Benefits Tax (FBT) and the Employee Contribution Method (ECM) to pay for operational costs.

What are the options?

The most popular way to salary package a vehicle in Australia is to use a novated lease.

A novated lease will allow you to finance a vehicle through an agreement with your employer and a leasing company, which you pay for directly from your pre-tax salary.

In some situations, you may be able to negotiate a car allowance instead of salary packaging a vehicle - however, if you can obtain both, you’ll be in an even better position.

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Limitations when salary packaging a vehicle

  • Novated leasing is only used for passenger vehicles with a maximum payload of 1,000 kg.
  • You can only apply for a fully maintained novated lease through a novated leasing company.
  • A novated lease acquired directly from a bank will always be self-maintained, and not offer the same benefits as a fully maintained lease.

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.

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 and refinance the residual into a new lease agreement.

Keep in mind the Australian Tax Office’s guidelines on minimum residual values (see table below), as well as your lender’s stated maximum residual value amounts.

Term of leaseEffective Life - 8 years

Year 1

65.63%

Year 2

56.25%

Year 3

46.88%

Year 4

37.5%

Year 5

28.13%

Tax and GST Benefits

Salary sacrifice reduces your taxable income - which can effectively increase your net disposable income. You might like to look at it like this: Your taxable income is reduced by the amount of the repayments.

Unlike many other types of personal vehicle finance, a novated lease can be used to acquire a vehicle without paying GST on the initial purchase price.

You also pay no GST on running costs for your vehicle under a novated lease. These are estimated by the leasing company and bundled into the total lease amount.

This can save a considerable amount of money, and is one of only a few ways an employee can acquire a new vehicle without being obliged to pay the GST (and where the vehicle is also able to be freely used as a personal 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.

About the Author

Shaun McGowan from money.com.au

Shaun

McGowan

Shaun McGowan

Shaun is the founder of Money.com.au and is determined to help people pay as little as possible for financial products. Through education and building world class technology. Previously Shaun co-founded CarLoans.com.au and Lend.

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