Novated lease

From CEOpedia | Management online

Lease is a contractual contract calling for the lessee (who is a user) to pay the lessor (who is an owner) for use of an asset [1].

Novated lease according to Reidy C. is an agreement between a financier, an employer and their employee, where the employee has effective control, and ultimate responsibility for the vehicle leased. The employee arranges a lease with the financier for the vehicle of their choice, and then sub-leases the car to their employer. FBT is determined using the statutory formula method. The employer makes the lease payments and deducts lease payments, FBT and other operating costs from the employees gross remuneration package. The employees total taxable income is therefore decreased and the employee pays less tax. The employee can also retain the car if they change jobs [2].

According to established in Australia in 1997, Summit Auto Lease Australia Pty Limited (Summit) a Novated Lease is a financial arrangement between three parties, the Employee (Lessee), the Employer and the Financier (Lessor). Under a Novated Lease arrangement, the Employee leases a vehicle from the financier, and in turn, with the consent of the financier, novates the lease to their current Employer and passes full responsibility for the payment of lease to the Employer while you are Employed. During the term of the Novated Lease arrangement, the Employee is provided with full and unrestricted use of the vehicle. The Novated Package gives Employees the opportunity of choosing the vehicles they desire (providing it is affordable and is thus subject to Credit Approval). during the term of the arrangement, the Novation Agreement expires and full responsibility for the lease, including monthly lease rentals plus GST, passes back to the Employee/Lessee. The Lessee has the option of re-novating the lease to their new Employer, continuing payment of the lease personally, restructuring the lease to suit changed circumstances or terminating the lease. Note that if a lease is terminated part way through its term, a financial shortfall may occur and this will be to the Lessee's account.

The second part to a novated lease is the running costs including all maintenance, tyres, registration, fuel and fuel card and insurance. All of these costs are included in the Summit Novated Lease arrangement [3].

Lease types

As stated by Summit [4]:

Novated Operating Lease

  • A Novated Operating Lease is attractive to Employees that don't want to take any residual value risk or GST obligation at the end of the lease. Summit takes on the risk of ownership and the vehicle is registered in Summits name while the Lessee has possession of the vehicle. Provided the vehicle is kept in the condition required by the agreement (any accident damage is repaired and is within the leased kilometre limit) at the end of the lease, the Lessee can return the vehicle to Summit without responsibility for any loss that may be incurred by Summit on resale.

Novated Finance Lease

  • A Novated Finance Lease is when the Employee decides to utilise a Novated Finance Lease, the vehicle is registered in the Employees name while Summit retains legal title to the vehicle and most of the risks and benefits of ownership are transferred to the Employee. At lease end the Employee is responsible for payment of the residual value of the vehicle plus GST. If there is a shortfall between the actual vehicle sale price and the agreed residual value on the lease, the obligation to make up the difference sits with the Employee (Lessee) .

Examples of Novated lease

  • A Novated Lease is an agreement between an employer (the Lessor) and an employee (the Lessee) that allows the employer to pay for the use of the employee's vehicle. The employer pays the lease payments directly to the finance company, and the employee pays the employer for the cost of the vehicle and any associated running costs.
  • Another example of a Novated Lease is a contract between an employee (the Lessee) and an employer (the Lessor) whereby the employer agrees to pay the cost of a leasing arrangement for a vehicle or other asset owned by the employee. The employee is responsible for making the lease payments to the finance company but the employer will reimburse the employee for the cost of the lease payments.
  • A third example of a Novated Lease is an agreement between an individual (the Lessee) and an organization (the Lessor) that allows the organization to pay for the use of the individual's vehicle. The organization pays the lease payments directly to the finance company, and the individual pays the organization for the cost of the vehicle and any associated running costs.

Advantages of Novated lease

A Novated lease is a type of lease agreement that allows an employee to lease their personal vehicle for their business use, and the employer to pay for the lease on their behalf. There are several advantages to this type of lease contract, including:

  • Cost savings - By taking advantage of the tax benefits associated with novated leases, employers can save money by transferring the cost of their employee's vehicle lease to their own pre-tax income.
  • Convenience - There is no need to worry about managing the paperwork or negotiating with the lease provider. As long as the employee pays their portion of the lease payments, the employer will take care of the rest.
  • Flexibility - If an employee's circumstances change and they no longer require use of the leased vehicle, the novated lease contract can be terminated at any time.
  • Tax Savings - The employer can claim the GST portion of the lease payments as an input tax credit.

Limitations of Novated lease

A Novated Lease is an agreement between a user, the lessee, and an owner, the lessor, for a specific asset. However, there are some limitations associated with it. These limitations include:

  • Tax Implications - Novated Leases can be subject to taxation, depending on the country and jurisdiction. It is important to understand the tax implications of the agreement before entering into one.
  • Duration - The duration of a Novated Lease is typically limited to a certain period of time and the lessee must make payments during that time.
  • Asset Value - The asset value of a Novated Lease must be agreed upon by both parties and is typically based on its fair market value.
  • Transferability - Novated Leases are not easily transferable and may require the permission of the lessor before the agreement can be modified or terminated.
  • Maintenance - The lessee is responsible for the maintenance of the asset during the duration of the Novated Lease.
  • Repossession - If the lessee fails to make payments, the lessor may repossess the asset.

Other approaches related to Novated lease

Novated leases are just one approach used when leasing an asset. Other options include:

  • Operating Leases - This type of lease allows the lessee to use the asset during the lease period, but the asset remains the property of the lessor. The lessee is only responsible for the operating costs of the asset and the lessor is responsible for all other costs associated with the asset and its maintenance.
  • Capital Leases - This type of lease is similar to an operating lease, but the lessee takes on ownership of the asset after the end of the lease period. The lessee is responsible for all costs associated with the asset and its maintenance during the lease period.
  • Financial Leases - This type of lease is similar to a capital lease, but the lessee is responsible for the full cost of the asset and its maintenance during the lease period. The lessee is also responsible for the cost of any repairs or modifications to the asset during the lease period.

In summary, a novated lease is just one of many approaches to leasing an asset. Other approaches include operating leases, capital leases, and financial leases. Each approach has its own advantages and disadvantages. It is important to carefully consider the type of lease that best suits your needs before signing a contract.


Novated lease — recommended articles
Full service leasing — Contract hire — True lease — Mortgage deed — Grant date — Yield maintenance — Demand loan — Residual payment — Service lease

References

Footnotes

  1. ↑ Stickney P., Weil R. 2007 p. 791 (Glossary of Financial Accounting: An Intro. to Concepts, Methods, and Use 12e)
  2. ↑ Riedy C. 2013, p. 6
  3. ↑ The Summit Guide to Novated Leasing 2015, p.3
  4. ↑ The Summit Guide to Novated Leasing 2015, p. 3

Author: Paulina Wolnik

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