Wrapping a car into a salary package is a popular choice. Doing so by salary sacrifice often raises the topic of novated leases. Is it worth it?
WHAT IS A NOVATED LEASE?
Simply put, a novated lease is a way for an employee to buy a new or used car and have their employer assist
in the organised repayment for that car to an agreed financial supplier.
The way this is done is by the employer agreeing
to make the repayments out of the employee’s pre-
tax salary in a salary sacrifice arrangement which,
like any such arrangement, reduces the employee’s taxable income. The terms of the lease repayments are calculated according to the employee’s earnings and the amount salary sacrificed.
A novated lease is therefore a three-way deal – between an employee, a financier, and the employer. The employee leases the car, and the employer agrees to make the lease repayments to the financier for that car as a condition of employment.
For these arrangements, one obvious such condition is to remain an employee. In the event that employment ceases, the obligations and rights under the lease revert to the (former) employee.
This can suit the person involved, as they keep the vehicle (and there are no tax consequences), but can also suit the employer as they are not saddled with an extra vehicle or a financial commitment to keep paying for the car.
During the period of the novated lease, the employer is entitled to a deduction for lease expenses where the car is provided as part of a salary sacrifice arrangement. But it does give rise to a car benefit under fringe benefits tax (FBT) rules.
FRINGE BENEFITS TAX
Fringe benefits that fall under the FBT regime can be provided directly by the employer, by an “associate” of the employer, or by a third party who has an arrangement with the employer (in this case, the finance supplier). A car provided by novated lease is considered a fringe benefit to an employee, and gives rise to an FBT liability for the employer.
WHY IS THIS IMPORTANT?
A basic principle of salary sacrifice arrangements is that an employer is no better or worse off from having offered an employee a form of remuneration other than straight cash salary.
However as the leased car potentially gives rise to an FBT liability, and as FBT is an employer’s obligation, it
is generally the case that any FBT amount arising as a result of the novated lease is charged to the employee’s salary package post-tax. The employer then remits the FBT to the ATO as required under the FBT rules.
WORKING OUT THE FBT
The value of the car benefit (on which the amount of FBT is based) is taken on the actual purchase price of the car. Working out its “taxable value” for FBT can be done using two available methods – the “statutory formula” method (the default and most commonly used), or the “operating cost” method.
The latter requires working out the total operating costs
of the car (fuel, oil, servicing, etc) and reducing that total amount by the portion of private kilometres travelled (which attracts FBT) as compared to the total kilometres. It is most often used where business kilometres travelled are high, but is more complicated and requires more records (logbooks) to be kept and calculations to be made.
With the “statutory formula” method, the taxable value is very broadly calculated at a flat rate of 20% of the purchase price of the car.
HOW YOU MIGHT SAVE TAX:
POST-TAX CONTRIBUTIONS TO REDUCE FBT
The employer’s FBT liability that arises from salary packaging a car through a novated lease can be reduced by the employee making contributions towards, say,
the running costs of the car from after-tax dollars. It is important that these contributions come from after-tax salary, as every dollar so contributed reduces the taxable value dollar-for-dollar up to the total.
By doing this, rather than the employer paying the FBT tax rate (which is 49% for the 2016-17 FBT year) and passing it on, the employee typically pays tax at their marginal rate, which for many will be much less than that.
Working out whether novated leasing is right for your circumstances can be a tricky exercise – contact us if you need assistance.
Novated lease implications in a nutshell
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