What’s the best novated lease term? Costs compared
You can have a novated lease anywhere from 1-5 years. A longer lease means lower regular repayments coming from your salary and a smaller residual payment required to own the car outright. A shorter term will likely maximise your annual tax savings but you’ll have a higher regular payment amount and a higher residual when the lease ends.
Here’s an example of what the lease costs, income tax savings and residual amount look like over different terms…
Lease term | Regular payment | Annual tax saving | Residual amount |
|---|---|---|---|
1 year | $417 | $11,492 | $40,817 |
2 years | $298
| $8,164 | $34,983 |
3 years
| $262 | $7,176 | $29,156 |
4 years
| $239 | $6,552 | $23,322 |
5 years | $222 | $8,084 | $11,495 |
* Example based on a Tesla Model Y RWD and assumes a driver in NSW with annual salary of $120,000, driving 15,000km per year.
That’s it in a nutshell. But a better way of thinking about it is this: the best novated lease duration is the one that lines up with how long you actually plan to keep the car.
Breaking your lease early in particular will be expensive as there will be break costs. This is one of the factors to consider when weighing up novated lease pros and cons. If you go for a shorter lease, there is always the option to extend it.
Here are the questions to ask yourself when deciding on the best lease term.
How long do you plan on keeping the car?
I always suggest going with the lease term for the period of time you want to keep the car. If you only want to keep the car for three to four years, then do a three or four year lease.
Don't do a five year lease. Because say you've got one or two years left in your lease, you'll be doing an early payout if you decide to upgrade early and that involves paying the remainder of the contract out. That's the novated lease residual value plus the remaining months left in the contract. There might be additional administration fees attached to that as well. It's not the best way to set it up.
What’s the warranty on the car?
It's always good to time the lease to end when there's at least one year’s warranty left. It just holds more value and it's easier to sell the car and move on to a new one.
What tax bracket are you in?
If you're on a high income, a more aggressive lease term may save you more in tax. Think about it, by reducing the lease period, you're increasing the lease payments and salary sacrificing a higher amount with each pay. This reduces your taxable income by more.
And yes, you are also paying less interest on the lease because it's a shorter term.
Are you looking to keep your regular repayments low?
What stops some people from doing a shorter lease is serviceability. What that basically means is how much you can afford to have deducted from each salary payment.
With a shorter lease, you’ll have higher repayments. Push the lease out longer, and the regular repayment comes down. The trade off is you’ll be paying more interest over the longer period, but you’ll still be making significant tax savings.
Do you want to keep your options open?
If you’re really not sure, there’s a lot to be said for going with a shorter lease if you can afford to do that. You’ll get those higher tax savings but also you're also giving yourself an early opportunity to get out of the lease if you want to do that.
Particularly at the moment, cars are changing so quickly. We’re at a real transition point with more and more EVs becoming available. It’s hard to know what will be available in a year, let alone five.
If you decide at that stage, you know what, I actually want to keep the car for longer, you can still refinance the residual at the end and extend the lease.
