Should I get a novated lease this EOFY?

In the tough and tumultuous economic tussle we’re currently living through, has there ever been a better time to get someone else to pay for your new car for you?

To be fair, there’s never really a bad time for a deal like that, but as the end of financial year 2019-2020 approaches, it would certainly be wise to plan for a very uncertain 12 months ahead by getting your employer to help you with the expense of owning a vehicle.

And the best way to do that, once you’ve got your head around the process, is a novated lease.

Don’t be put off by the word “lease”, for a start. While you’d always prefer to be paying off your own house rather than leasing someone else’s, and thus chipping in for their mortgage, things are not quite the same when it comes to cars, which are, for most of us, the second most expensive item we’ll ever buy.

As for novation, well, Investopedia helpfully defines it as “the act of substituting a valid existing contract with a replacement contract, where all concerned parties mutually agree to make the switch”. If that language makes your head hurt, you’re not alone, and you’re probably not an accountant or a lawyer, so let’s make it a lot simpler.

What is a novated lease and why would you want one?

At the end of a lease period you have the choice of trading up to a brand-new car and handing back your used one.

The easiest way to think of a novated lease arrangement, in which your employer gets on board financially to help you with the “purchase” of a car (you won’t actually “own” it as such, you’ll just use it, but we’ll get to that), is to think back to when your parents helped you buy your first car and you were using the Bank of Mum and Dad. Only this time your employer will be stricter about payments.

So, basically a novated lease means that your employer joins you in your purchasing agreement for a new car and allows you to pay for your vehicle as part of your salary package, which, of course, allows them to save a bit of cash as well.

One of the wondrous and yet slightly more difficult to understand parts of the novated leasing deal is that you get to pay your car payments out of your pre-tax earnings (your gross income, if you like).

This means that your income tax is then calculated on your reduced salary, which leaves you with slightly more disposable income. And that’s something we’re all going to be keener on than ever as we attempt to ride out the current recession/depression/global woe fest.

Remember that if you got a loan and bought the car for yourself, or agreed your own lease even, you’d be making the payments out of your post-tax dollars, which is a far less exciting option.

Another easy-to-understand tax bonus of using the novated lease option is that it means you won’t have to pay the GST on the purchase price of your car (it’s a “sales” tax after all, and you’re leasing it, not buying it), which saves you 10 per cent on top of the list price (so if the car was $100,000 new, you’d normally have to pay $110,000, but you save that $10K with a novated lease), which is a handy sum.

Having explained it as simply as possible, here is how an accountant would do the same thing, using finance-speak: "A novated lease involves yourself, your fleet provider and your employer. It allows an employer or a business to lease a vehicle on behalf of an employee, with the payments the responsibility of the employee, rather than the business.

"The difference between a novated lease and normal finance is that your vehicle payments include all running expenses, and are taken from your pre-tax salary, so regardless of what scale of tax you pay, there's always going to be a benefit.”

Yes, the point about running expenses is also worth noting.

So how does it all work in practice?

A novated lease involves yourself, your fleet provider and your employer.

Well, the novation part is essentially when you get your employer to join you in this new contract, where they help you pay for the vehicles as part of your agreed salary.

Any EOFY is a good time to be talking about renegotiating your salary package and this year, with many businesses desperate to have more cash on hand, it’s probably going to be a better environment than ever to ask for something like a novated leasing agreement.

You can then go car shopping and ask the dealer about leasing offers.

Typically, you’ll be leasing the new vehicle for at least two years (just long enough to really enjoy a car, and then desire a new one), but sometimes as long as three or five years.

At the end of that lease period you have the choice of trading up to a brand-new car and handing back your used one, which is what a lot of people do as long as their employers are still on board with the leasing idea, or you can you choose to pay a pre-determined fee - known as a balloon payment - and keep the vehicle you’ve been leasing.

Imagine that you’re effectively blowing money into a balloon, with your lease payments each month topping it up. Once the balloon is full, you’ll own the car, but what you’re putting in over the lease period is never going to be enough to reach the purchase price.

So, if you don’t want to just stay on the lease program and get a new car every few years, you have to fill up the balloon to the top with your own money to own the whole car. Hence the “balloon payment”.

How much are you actually saving by using a novated lease?

Novated leasing has the potential to save you some serious money.

Fortunately, there are handy novated car lease calculators like this one from streetfleet.com.au to do the maths for you, because there are a few variables to throw in; like the price of your car, your income and how long you want the lease to run for.

While the advantages might be clear enough, the actual amounts you’re going to save will very much depend on your personal circumstances.

Do keep in mind that if you lose your job, or change jobs, you will be going to your next employer, cap in hand, asking them to continue with a novated lease you already have in place.

Failing that, you’ll be forced to terminate the lease and pay what’s still owing. You might also be stuck with exit charges. As always, it pays to read the paperwork, and to read it thoroughly.

And do compare the interest rates you’ll be paying on your novated lease, as opposed to a normal car loan because they are likely to be higher. You need to weigh that against the savings and the pre-tax-income benefits. A normal car loan doesn’t allow you to get a new car every few years, either, or course.

In short, there’s never been a better time than the coming EOFY to do your sums and consider what’s best for you when it comes to getting a new car.