The 7 Pros and Cons of Novated Leasing: Is It Worth It?

A novated lease can be one of the most cost-effective ways to finance a car under the right circumstances.

You need to be employed and paid a salary by an employer that offers novated leasing as a benefit to qualify.

But you’ll also need to be aware of the pros and cons to make sure it’s right for you.

Here are four of each to help you decide if a novated lease is worth it for you.

This is probably the main advantage for most people who use a novated lease, because:

• You won’t pay GST on the purchase price of the vehicle — this can save you up to $6,191 in the FY 2023/24 financial year
• You’ll save on income tax by making novated lease payments from your pre-tax salary ('salary sacrificing' your car)
• Any car running costs that are included will also be GST-free

Legislation introduced to Australia in 2022 means that if you novate an electric vehicle or plug-in hybrid (up to the luxury car tax threshold), you won’t be subject to fringe benefits tax (FBT) on your lease. This is a tax that usually applies to employee benefits.

This FBT exemption means every dollar you spend on your car can be made using your pre-tax income with a novated lease.

I know this is hard to believe, but because of this extra tax benefit, it can actually work out a lot cheaper to pay for an electric car or PHEV through a novated lease than it is to buy and run the exact same car outright with cash. The includes the residual payment required to own the car at the end of the lease.

This is down to the combination of:

• the up-front GST savings on the car with a novated lease;
• income tax saving on your regular lease payments;
• GST and income tax saving on your running costs (not just charging but pretty much every cost involved in running a car).

A lot of people value the convenience of having a single payment to cover the vehicle finance PLUS their car running costs.

With a fully-maintained novated lease deal, you can consolidate costs like fuel/charging costs, insurance, registration and servicing into your regular repayment.

You’ll also save on GST for those costs if you add them to your novated lease. The savings on running costs alone could be in the thousands of dollars per year. This is a big part of the overall cost difference with a novated lease, as we'll see in the case study below.

It’s a common misconception that novated leases are only available to people who use their car for work.

While the agreement involves your employer (because the payments are made directly from your salary), you can use the car 100% for personal use with no restrictions.

You’re not limited on vehicle choice with a novated lease.

For example, it’s possible to novate a used car, as well as new vehicles.

You can also add accessories to the car so it's tailored to what you need, with a GST discount on those extras as long as they are added before the car is delivered to you.

Novated lease companies buy hundreds of cars from dealers each month. They can often use this bulk-buying power to negotiate a better price on your behalf than an individual buying a car for themselves can get.

A residual on a novated lease is a lump-sum amount calculated at the beginning of the lease and made as a final payment. It basically represents the value of the car at the end of the lease.

Shorter-term leases will have higher residuals, as the car is newer and retains higher value. E.g. a 1-year lease may have up to 65% of the car’s value as a residual.

At the end of your term, you will have to repay the residual amount if you want to take full ownership of the car.

A novated lease is only used by employees, which means the lease agreement is tied to the employee, not the employer.

If you leave your job with a novated lease, the car will be ‘de-novated’ and you will make payments as you would with a standard lease (from your own funds, not directly from your salary) until you are employed and paid a salary again.

If you find a new job with an employer who agrees to a novated lease, you will be able to ‘re-novate’ your lease and continue making payments as you did in your previous job.

Some employers have an ‘exclusive’ arrangement with a particular novated lease provider. If that’s the case, you won’t have the freedom to shop around to get the best deal possible.

You’ll still enjoy the tax benefits, but some of these may be eroded by higher fees. After all, there is little incentive for the provider to offer the most competitive terms if its customers don’t have the ability to shop around.

If you own your own business, you will need to pay yourself a salary from the business to qualify for a novated lease. If you do not, you will have to consider other forms of finance such as a chattel mortgage.

Some novated lease companies ‘up-sell’ low-value extras like gap insurance and extended warranties that a lot of customers don’t need.

In some cases, these extra costs will be included in your agreement by default and you will need to opt out to have them removed.

The potential savings are significant, but the reality is a novated lease is more complicated than going to a car dealer and buying a vehicle with cash or using a standard car loan.

You’ll need to work with a novated lease provider that has the expertise to answer all your questions so you’re comfortable with the arrangement and what’s involved.

A good novated lease company will be totally transparent about the process, the potential pros and cons and your costs.

Because of the tax savings alone, a novated lease is worth it for most people and will save you money compared to other car finance options. But it does come down to each individual’s situation and the vehicle being purchased.

I’ve seen it work really well for some people.

But in other cases, the numbers won't make it worthwhile.

Below are my go-to questions when I’m talking to people about a novated lease.

Working through these should help you understand if a novated lease will be worth it versus a car loan.

Then, make sure you compare novated lease companies and lease options to work out what will be best for you.

What’s your income?

You’ll need to make sure that the income tax savings will be enough to offset the cost of the lease. For example, it might not make sense for people on low incomes.

What kind of vehicle will you be leasing?

Novated leases have become particularly attractive for people buying an electric vehicle or plugin-hybrid.

These are now exempt from fringe benefits tax (FBT) as long as the value of the car is below the luxury car tax threshold for fuel efficient vehicles ($89,332 for FY 2023/24).

This considerably boosts the novated lease tax savings.

How many kilometres will you drive?

Generally, people who use their car a lot get more of a benefit through savings on fuel and other running costs included as part of the lease.

At current fuel prices, this is over 20 cents per litre saved!

What’s the purchase price of the vehicle?

This one’s a balancing act: Too low and the GST savings may not be enough to offset the lease costs. Too high and the savings as a percentage of the vehicle’s value will become very low.

A common mistake to avoid is buying a more expensive vehicle than you need in an attempt to maximise tax savings.

What are the lease costs?

A novated lease will work best if you can get a deal with a competitive interest rate and low lease fees (e.g. admin fees charged by the lease company).

What's the lease term?

Similar to other kinds of finance, you can reduce your interest and other costs by choosing a shorter term.

A smart approach I’ve seen work for some people is to choose:

• the shortest term possible (while maximising the percentage of the vehicle you pay off by the end of the term)
• across as many financial years as possible so you’re maximising tax savings.

Consider getting tax advice if you’re looking to maximise tax savings.