Novated Lease (Australia)
A three-way car lease agreement in Australia between an employee, their employer, and a finance company, where lease payments and running costs are paid from the employee's pre-tax salary through salary packaging.
- What Is a Novated Lease?
- How a Novated Lease Works Step by Step
- How the Tax Savings Work
- Electric Vehicle FBT Exemption
- What Happens When You Change Jobs
- The Employer's Role in Novated Leasing
- Common Pitfalls and Misconceptions
- Choosing a Novated Lease Provider
- Frequently Asked Questions About Novated Leases
What Is a Novated Lease?
Key Takeaways
- ✓A novated lease is a three-way agreement between an employee, their employer, and a leasing/finance company, where the employer makes lease payments from the employee's pre-tax salary.
- ✓The term 'novation' is a legal concept meaning the transfer of an obligation: the employer takes over the employee's lease payment obligation for the duration of employment.
- ✓Employees save money because lease payments and running costs (fuel, insurance, registration, servicing, tyres) come from pre-tax salary, reducing income tax and potentially saving 30% to 50% on total car costs.
- ✓Unlike a company car (which the employer owns), a novated lease vehicle belongs to the employee. They choose the car, customize it, and keep it when they leave.
- ✓The Australian novated lease market is worth approximately AUD 4.7 billion annually, with growth accelerating due to electric vehicle (EV) FBT exemptions introduced in 2022.
A novated lease is Australia's most popular form of car-related salary packaging. Here's the basic idea: you want a car. Instead of going to a dealer and financing it yourself with after-tax money, you arrange a lease through your employer. Your employer deducts the lease payments from your gross salary before tax. You get the car. You pay less than you would have privately. Your employer handles the payroll deductions. Everybody wins. The word 'novation' comes from contract law. It means transferring a contractual obligation from one party to another. In a novated lease, the employee's obligation to make lease payments is 'novated' (transferred) to the employer. The employer agrees to make payments to the leasing company on the employee's behalf, funded by salary deductions. If the employee leaves the job, the lease obligation transfers back to the employee (or novates to the next employer). The employee owns the car throughout. The employer never owns it. This distinguishes novated leasing from company fleet cars, where the company selects, owns, and manages the vehicle.
How a Novated Lease Works Step by Step
The process involves several parties and moving parts, but most novated lease providers handle the complexity on the employee's behalf.
Step 1: choose the vehicle
The employee selects any car they want (new or used, though most novated leases are for new vehicles). There's no restriction on make, model, or type, though the employer may set a maximum vehicle value or exclude certain categories. The employee negotiates the purchase price or the lease provider negotiates on their behalf. Novated lease providers often get fleet discounts that are better than what a retail buyer would receive.
Step 2: set up the lease and salary packaging
The leasing company purchases the vehicle. The employee signs a lease agreement with the leasing company. The employee and employer sign a novation agreement, transferring the payment obligation to the employer. The employer sets up payroll deductions. The deductions have two components: a pre-tax component (the lease payment itself plus budgeted running costs) and a post-tax component (to manage the FBT obligation through the Employee Contribution Method, or ECM). The split between pre-tax and post-tax deductions is critical for determining the total tax benefit.
Step 3: drive the car and pay bundled running costs
Most novated lease packages are 'fully maintained,' meaning the monthly payment covers the lease plus a budgeted amount for fuel, insurance, registration, servicing, tyres, and roadside assistance. These running costs are estimated annually, and the employee pays a fixed monthly amount. At the end of the year, the provider reconciles actual costs against the budget. If the employee spent less, they get a refund or credit. If they spent more, they owe the difference. This bundled approach simplifies car ownership. One payment covers everything, and it's all managed through payroll.
Step 4: end of lease options
At the end of the lease term (typically 3 to 5 years), the employee has three options. Pay the residual value and own the car outright (the residual is set at the start of the lease based on ATO minimum percentages). Refinance the residual into a new novated lease on the same car (extending its use). Return the car and start a new novated lease on a different vehicle. Most employees choose to pay the residual and keep the car, since the residual value is typically below market value for well-maintained vehicles.
How the Tax Savings Work
Novated lease tax savings come from two mechanisms: income tax reduction through pre-tax salary deductions and GST savings on the vehicle purchase and running costs.
Income tax savings
Lease payments and running costs paid from pre-tax salary reduce the employee's taxable income. For an employee earning AUD 100,000 with a marginal tax rate of 32.5% plus 2% Medicare levy, sacrificing AUD 15,000 per year into a novated lease saves approximately AUD 5,175 in income tax and Medicare levy. The actual saving depends on the employee's total taxable income and marginal rate. Higher earners save proportionally more because the 45% plus 2% marginal rate applies above AUD 190,000.
GST savings
When a novated lease provider purchases the vehicle, they claim back the GST (10%) on the purchase price and running costs. This saving is passed through to the employee. On a AUD 50,000 car, the GST saving is approximately AUD 4,545. Combined with income tax savings, the total benefit makes novated leasing significantly cheaper than private purchase for most employees above the tax-free threshold.
The Employee Contribution Method (ECM)
The ECM is the most common method for managing the FBT (Fringe Benefits Tax) obligation on novated leases. Under the ECM, the employee makes post-tax contributions toward the lease equal to the FBT that would otherwise be payable. The employer then doesn't need to pay FBT because the employee's post-tax contribution offsets it. The result is that the employee pays from a mix of pre-tax and post-tax salary, but the combined cost is still lower than paying entirely with after-tax money. The optimal pre-tax/post-tax split depends on the car's value, the employee's salary, and the annual distance driven. Novated lease providers model this to maximize the employee's benefit.
Electric Vehicle FBT Exemption
The Australian Government introduced an FBT exemption for eligible electric vehicles from July 1, 2022. This has dramatically changed the economics of novated leasing for EVs.
How the exemption works
Vehicles that are zero or low emission (battery electric, hydrogen fuel cell, or plug-in hybrid with an electric range meeting certain criteria) and have a value at first retail sale below the luxury car tax threshold for fuel-efficient vehicles (AUD 89,332 in 2024/25) are exempt from FBT. This means the entire lease payment and running costs can be paid from pre-tax salary with zero FBT liability. There's no need for post-tax contributions under the ECM. The saving compared to a non-exempt vehicle is substantial. For a AUD 60,000 EV, the FBT exemption can save the employee an additional AUD 5,000 to AUD 9,000 per year compared to a novated lease on an equivalent petrol car.
Impact on EV adoption
The exemption has accelerated EV uptake through novated leasing dramatically. The Electric Vehicle Council reported that novated lease EV orders increased by over 400% in the 12 months following the exemption's introduction. Tesla Model 3 and Model Y became the most popular novated lease vehicles in Australia. For employees, a novated lease on an EV can be cheaper than a novated lease on a comparable petrol car despite the higher purchase price, because the FBT exemption eliminates the post-tax contribution that would normally be required.
Plug-in hybrid controversy
The FBT exemption originally included plug-in hybrid electric vehicles (PHEVs). However, from April 1, 2025, new PHEV arrangements will no longer qualify for the exemption. Existing PHEV novated leases that were entered into before this date are grandfathered and will retain their FBT-exempt status for the life of the lease. This change reflects concerns that PHEVs are often driven primarily on petrol, undermining the environmental intent of the exemption. Employees considering a PHEV novated lease needed to act before the April 2025 deadline.
What Happens When You Change Jobs
One of the most common concerns about novated leasing is what happens to the car when you change employers. The answer is straightforward: the lease is portable.
Novating to a new employer
When you move to a new job, the novation agreement with your old employer ends. You then establish a new novation agreement with your new employer, and they start making the payroll deductions. The lease with the finance company continues uninterrupted. The car stays with you. Only the payroll deduction arrangement changes. Most new employers are willing to take on novated leases because it costs them nothing (they're just processing payroll deductions) and it's an employee benefit that aids recruitment.
If the new employer won't offer salary packaging
If your new employer doesn't offer salary packaging (uncommon but possible), the lease obligation reverts fully to you. You make the lease payments directly to the finance company from your after-tax income. You lose the tax benefits, but you keep the car and the lease terms. This scenario is why it's worth confirming that a prospective employer offers novated leasing before you accept a new role, especially if you have significant time remaining on your lease.
What happens during unemployment
If you leave a job without immediately starting another, the lease obligation reverts to you. You make payments from personal funds until you start a new job and establish a new novation. The lease continues. The car stays with you. You can't 'pause' the lease. Some employees find themselves making lease payments from savings during a job transition, which can be financially stressful if the gap is extended. Consider this risk when deciding on your lease term and monthly commitment.
The Employer's Role in Novated Leasing
For employers, novated leasing is an attractive benefit because it costs nothing to provide but adds meaningful value to the employee experience.
Why employers should offer it
Zero cost: the employer acts as a payroll intermediary. All costs are borne by the employee through salary deductions. No balance sheet impact since the employer doesn't own or lease the vehicle. Retention tool: employees with active novated leases are less likely to leave because the lease portability process, while possible, is a friction point. Recruitment advantage: novated leasing is a standard expectation among Australian professionals, especially in financial services, consulting, and tech. Not offering it can be a competitive disadvantage. Payroll tax may be reduced because salary sacrificed into a novated lease is sometimes excluded from the payroll tax base, depending on the state.
Administration requirements
The employer's administrative burden is minimal if they work with an established novated lease provider. The provider manages the lease, the vehicle, the running costs, and the FBT reporting. The employer's responsibilities are: processing the pre-tax and post-tax payroll deductions correctly each pay period, reporting the benefit on the employee's payment summary (income statement), including the novated lease in annual FBT reporting (even if the FBT is nil due to the ECM or the EV exemption), and managing the novation agreement when employees join or leave.
Common Pitfalls and Misconceptions
Novated leasing is widely promoted by finance brokers and salary packaging companies, and the marketing can sometimes oversell the benefits. Here are the realities.
It's not always cheaper than buying
For employees on low incomes (below the tax-free threshold of AUD 18,200 or in the lowest marginal rate bracket), the tax savings are minimal or nonexistent. The lease interest rate, fees, and bundled running cost markups can make a novated lease more expensive than buying a used car outright. Always run the numbers for your specific income level before committing. Novated lease quotes should be compared against the total cost of private ownership, including the opportunity cost of not investing the money elsewhere.
The residual value trap
The ATO sets minimum residual values for novated leases (as a percentage of the vehicle's cost, declining each year of the lease). These minimums are often above the car's actual market value at lease end. If the residual is AUD 15,000 but the car is worth AUD 12,000 on the used market, you're paying AUD 3,000 more than the car's worth to keep it. You can avoid this by choosing a shorter lease term or a vehicle that retains value well. Alternatively, refinancing the residual into a secondary novated lease at a lower rate can spread the cost further.
Running cost budget mismatches
The budgeted running costs (fuel, servicing, tyres, insurance) are estimates. If you drive significantly more than budgeted, the end-of-year reconciliation will show an underpayment. If you drive less, you'll receive a refund. Large mismatches create end-of-year surprises. Be honest about your annual kilometers when setting up the budget. Review and adjust mid-year if your driving patterns change significantly.
Choosing a Novated Lease Provider
The provider you choose significantly affects the total cost and experience. Not all novated lease companies offer the same value.
- Compare interest rates: novated lease interest rates vary from around 5% to 9% depending on the provider, your credit score, and the vehicle. A 2% rate difference on a AUD 50,000 vehicle over 4 years costs over AUD 2,000 in additional interest.
- Check management fees: some providers charge monthly management fees of AUD 10 to AUD 30. Over a 4-year lease, that's AUD 480 to AUD 1,440. Ask if fees are included in the quoted package.
- Look at fuel card options: bundled fuel cards often restrict you to specific fuel networks. If those networks aren't convenient for your location, you'll end up paying out-of-pocket for fuel and losing the pre-tax benefit.
- Ask about tyre and servicing networks: similar to fuel, check that the servicing and tyre networks are accessible from where you live and work. Being forced to drive 30 minutes to an approved repairer creates frustration.
- Check insurance inclusions: novated lease packages typically include motor vehicle insurance, but the level of coverage varies. Check the excess amount, whether it includes hire car coverage, and whether the insurer has a good claims reputation.
- Ask about exit fees: if you need to terminate the lease early (because you're selling the car, paying it out, or refinancing), what are the early termination charges? These can be significant.
- Leading providers: Maxxia, SG Fleet, LeasePlan, Autopia, and Novated Lease Australia are among the established players. Compare at least 3 quotes before committing.
Frequently Asked Questions
Can I novated lease a used car?
What happens if my car is written off in an accident?
Is the FBT exemption for EVs permanent?
Do I still need to pay registration and insurance separately?
Can I salary sacrifice more than one vehicle?
How does a novated lease compare to a car loan?
Written by Adithyan RK