What is a Novated Lease?
The Simple, Jargon-Free Explainer
A novated lease is one of the most tax-effective ways for an Australian salaried employee to finance a new or used passenger car. By bundling your car payments and vehicle running costs into your regular payroll deductions before income tax is calculated, you can save thousands of dollars every year.
⚡ At a Glance: Key Novated Lease Rules
How Does a Novated Lease Work? The Three-Party Deed
The word "novation" is a legal term meaning the replacement of an obligation under an agreement with a new obligation. In a novated lease, three parties enter into a formal tri-partite agreement:
1. You (The Employee)
You choose the exact car you want (new or used), negotiate the price, and have 100% exclusive personal use of the vehicle.
2. Your Employer
Your employer deducts the lease payment and running costs from your gross salary before income tax and remits them to the finance company.
3. The Financier
The finance company purchases the car (claiming the GST credit) and leases it to you for a fixed period (typically 1 to 5 years).
Throughout the entire lease, the car is registered in your name. If you leave your job or change employers, the lease novation deed can be smoothly transferred to your new employer, or converted into an ordinary personal finance agreement.
How You Save Money: Income Tax & GST
The substantial savings generated by a novated lease stem from two key areas of Australian taxation law:
1. Upfront GST Savings on Vehicle Purchase Price
When buying a car through private funds or a standard car loan, you pay 10% GST on the retail price. With a novated lease, the finance company purchases the car from the dealer as an input tax credit, passing the GST saving directly to you. For a $60,000 vehicle, you save over $5,400 upfront (up to the ATO luxury car depreciation limit of $6,353).
2. Income Tax Reduction via Pre-Tax Salary Sacrifice
Lease repayments and running costs are deducted from your pre-tax pay. For example, if you earn $95,000 per year, your marginal tax rate is 32% (including Medicare). Every $1,000 you pay pre-tax only reduces your take-home pay by $680, with the Australian Tax Office effectively covering the remaining $320!
3. GST-Free Vehicle Running Expenses
When you bundle running costs (charging, fuel, servicing, registration, CTP, tyres, comprehensive insurance) into your package, you also do not pay GST on those expenses — saving an extra 1/11th on every invoice all year round.
What Happens at the End of a Novated Lease?
Every novated lease includes an ATO-mandated minimum residual value (often called a "balloon payment") that reflects the estimated market depreciation over the lease term. When your term concludes, you have three flexible pathways:
Trade In & Upgrade
Trade in the vehicle for a new car. The dealer pays out the residual balance. If the car's trade-in value exceeds the residual, you pocket the surplus profit 100% tax-free.
Pay Residual & Keep
Pay out the residual value with cash or personal finance, and the vehicle is completely yours with 100% unencumbered title.
Refinance / Extend
Extend the lease for another 1 to 3 years. The residual becomes the new loan principal, allowing you to keep enjoying tax-free running costs.
ATO Minimum Residual Value Guidelines
The ATO sets strict minimum residual values based on the term of the lease to ensure tax compliance:
| Lease Term | ATO Statutory Minimum Residual % | Example on $60,000 Vehicle |
|---|---|---|
| 1 Year (12 months) | 65.63% | $39,378 |
| 2 Years (24 months) | 56.25% | $33,750 |
| 3 Years (36 months) | 46.88% | $28,128 |
| 4 Years (48 months) | 37.50% | $22,500 |
| 5 Years (60 months) | 28.13% | $16,878 |
Ready to Calculate Your Exact Savings?
Use our interactive calculator to test different vehicles, salaries, and terms with live Stage 3 Australian tax rates.