A novated lease is a type of motor vehicle lease common in Australia that allows a business to lease a motor vehicle on behalf of an employee, with the responsibility for the lease lying with the employee and the lease payments being made from the employee's pre-tax income.
The term novated lease is also used in the UK to refer to a car lease which has been novated (transferred) between two parties.
Novated leases in Australia
In Australia, a novated lease is generally a three way agreement ("novation agreement") between an employer, employee and lease company, under which the employee leases a vehicle from the lease company, and employer agrees to take on the employee's obligations under the lease.
Normally, the employer then makes the lease payments on behalf of the employee, and deducts them out of the employee's pre-tax income (known as salary packaging a vehicle).
The South Australian government has specified the use of one generic "deed of novation" with the "nominee" (service provider; also known as "panel member") arranging to make salary deductions from the employee's pay into a separate account which is administered by the nominee. From this account, all fees, claims and payments are then deducted. In addition to the agreements between the employer, employee and the nominee, there is also an agreement between the various panel members and the South Australian government and this is known as the "panel agreement". The panel agreement is referred to by, and forms part of, the other agreements.
If the employee ceases to be employed by that employer, or the lease agreement ends, the employee retains the vehicle but all obligations assumed by the employer under the novation agreement revert to the employee.
Vehicles salary packaged through a novated lease attract fringe benefits tax (FBT) in Australia. However, FBT is treated concessionally for vehicles, so novated leasing may be a tax-effective way for an employee to purchase a vehicle, depending on the type of vehicle, kilometers travelled annually, FBT method used, employee's salary and all the fees, charges and lease interest rate charged by the Nominee.
There are three main types of novated lease: a novated finance lease, where just the vehicle is leased, a fully maintained novated lease, where the vehicle and its running costs are wrapped up into the lease, and a fully maintained novated operating lease, where the vehicle and its running costs are wrapped up into the lease, and the residual value risk is assumed by the lessor. Fully maintained novated leases and fully maintained novated operating leases are normally managed by a third-party lease management company, and the benefit of their perceived convenience can often be outweighed by high management fees and hidden costs associated with the lessor assuming the residual value risk (in the case of a fully maintained novated operating lease).
Benefits for the employee:
- potential for significant income tax savings
- savings on GST that would normally be incurred on vehicle expenses
- potential access to volume discounts if the employer has many vehicles under this scheme
- more flexibility in the choice of a car compared to a company car arrangement
- vehicle stays with the employee and can be transferred to a new employer
Benefits for the employer:
- a way to provide an effective increase in employees' salaries with no or minimal cost to the business
- potentially a cost effective alternative to operating a fleet of company vehicles
- compared to company cars, the business does not assume any risk for the vehicles
- compared to company cars, employee vehicles are "off balance sheet"
Benefits for the government:
- Income: panel members pay fees to the government to be panel members.
Benefits for the service providers:
- They provide various services for fees and/or commission.
- They produce income for the country
Novated leases in the United Kingdom
In the UK, a novated lease refers to a car lease which has been novated (transferred) to a third party with the consent of the lessor, the original lessee and the prospective lessee. The transfer of liability for the lease, between two legal entities, is normally covered by tripartite contract.
Swapping car leases is a relatively new phenomenon in the UK (and a number of online services are starting to appear), although the market for novating leases is well established in the USA.