Novated Lease – Give yourself a tax break

Salary packaging a car still has its financial benefits – just be sure to make extra contributions.

The income tax paid by almost everyone earning more than $34,000 will be less from July 1. That means salary packaging a car will save less tax for almost everyone because they will be paying less tax.

But that does not mean that car packaging is no longer worthwhile. Packaging a car still has financial benefits for most people and the non-financial benefits are unchanged.

Salary packaging through a novated lease is where employees pay for the car and the financing, running and maintenance costs with pre-tax dollars. But most of the financial advantage is lost through the fringe benefits tax.

However, the 46.5 per cent FBT does not quite claw back all of the tax saved though packaging. The lower the value of the car and the more kilometres travelled, the lower the FBT that applies and the greater the tax advantage.

For employees on the highest tax bracket nothing has changed: they can continue using the standard or FBT method of packaging.

But those in lower tax brackets must ensure they use the employee-contribution method, if they are not doing so already.

This is where the employee makes some after-tax contributions to either eliminate or partially eliminate the FBT. It results in a saving of 30 cents or 38cents in a dollar, compared with the FBT rate of 46.5cents.

A tax partner at KPMG, Andy Hutt, says most people who are not in the top tax bracket will be better off using the employee-contribution method than leasing it in their own right.

Hutt gives the example of someone on $90,000 a year with a $35,000 car, who travels less than 15,000 kilometres a year. Had the employee not packaged the car, their remaining cash after paying for the car would be $53,000 for the 2009-10 financial year. By packaging the car, using the employee-contribution method, the remaining cash increases more than $2000 to $55,206.

For those packaging a car and using the employee-contribution method, the income tax changes from July 1 will not require any change to their packages. Hutt says the mix of pre-tax and after-tax dollars under the employee contribution method only needs to be revisited if there is a change in distance travelled in the car from what was originally estimated at the beginning of the novated lease.

Hutt expects all packaging administrators are using the employee-contribution method. But those employees whose employers do the packaging themselves, in-house, should check their employer is using the employee-contribution method.

Hutt says it is likely the way the FBT is calculated will change. At the moment, less tax is paid the more the car is used.

The Henry tax review, which is due to report at the end of this year, could well recommend changes to the taxing of car benefits. Hutt says this may include a formula based on emissions and engine size, as is the case in some European countries. There would probably be grandfathering to protect existing novated leases.

Other benefits

A novated lease is a three-way contract between a lease company, the employer and the employee. Once the lease ends – usually between three or five years – the employee can return the car and lease another, or pay a fixed percentage of the purchase price of the car, called the “residual”, and retain the car.

If the lease is broken, a small penalty interest may be payable, or the employee may owe more to the finance company than what the car is worth. If the employee changes jobs, he or she can usually continue the novated lease with the new employer.

There are financial benefits, apart from tax savings, of packaging. Many employers buy comprehensive and compulsory third party insurance on a wholesale basis. That can mean lower premiums with little or no excess to be paid if the employee is involved in an at-fault accident.

Non-financial benefits include 24-hour roadside services and the convenience of a fuel card.

What next?

To discuss our affordable novated lease options with one of the experienced financiers at Auto Car Finance, simple give us a call on 1300 547 226, or fill out an online application.