FBT
Novated lease
A novated lease is a three-party arrangement in which an employee's car lease is transferred to the employer, who makes lease and running cost payments from the employee's salary.
A novated lease is an arrangement between an employee, an employer and a finance company. The employee leases a car, then the lease is novated, which means the employer takes over the obligation to make the lease payments. The employer deducts the payments, usually together with running costs such as fuel, servicing, insurance and registration, from the employee's salary. If the employee leaves the job, the lease usually reverts to the employee, who must then continue the payments or arrange a replacement.
The tax outcome depends on how the payments are made. Some of the deductions from salary may be made from pre-tax pay, which reduces the employee's taxable salary, and some from after-tax pay as an employee contribution. The car is typically treated as a car fringe benefit, with FBT calculated under the statutory formula or operating cost method, though the employer may pass the FBT cost on to the employee as part of the package. The aim is to arrange the amounts so that the employee pays little or no FBT through their contributions.
There are special rules for some zero and low emission vehicles. In certain circumstances, they may be exempt from FBT, subject to conditions about the type of vehicle and its value, and the employer may still need to report the benefit as part of the reportable fringe benefits amount. The employee contribution method may also be used so the taxable value is reduced to nil. Because these rules change over time, people should check the current details on ato.gov.au.
Both employer and employee should understand the cost. There are fees and interest in the lease, the residual or balloon payment at the end, and the effect of the arrangement on take-home pay, super and other benefits. The employee's reportable fringe benefits amount may increase, affecting income tests such as the Medicare levy surcharge or study loan repayments. A novated lease can be good for some people and unsuitable for others, so it is wise to compare options.
GST features throughout. The employer may be able to claim GST credits on the lease payments and running costs, subject to the car limit and the holding of tax invoices, and the higher gross-up rate applies if credits are claimed. The finance company's interest charges are financial supplies, which are input-taxed, so there is no GST credit on them. The luxury car tax may apply when a high-value car is purchased.
A common misunderstanding is that a novated lease makes the car free or that all costs are tax deductible. The package is still funded by the employee's salary. Another is overlooking what happens when employment ends. The employee may be left holding the lease.
This is general information only, so confirm your arrangement with the ATO or a registered tax professional.
Worked example
An employee on a $100,000 salary takes a novated lease with annual lease and running costs of $15,000. The employer deducts $15,000 across the year from salary, part pre-tax and part post-tax, so the employee's taxable salary may fall to somewhere below $100,000. The employer treats the car as a car fringe benefit, claims GST credits on lease and running costs if eligible, and prepares the FBT return after 31 March.
Practical tips
- Ask for a full breakdown of fees, interest and the residual payment before you sign a novated lease.
- Check how the arrangement affects your reportable fringe benefits amount and other income tests.
- Understand what happens to the lease if you leave your job, as you may become responsible for the payments.