Novated lease residual value: Not as scary as it sounds
The residual on a novated lease is one of the part of the process that confuses people the most. But once you understand it, most people can see how it actually works in their favour. It means you can end up making a profit on the vehicle you’re leasing.
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Let's start with basics.
What is the residual value on a novated lease?
The residual value on a novated lease is what you pay at the end of the lease to pay off the car and own it. The residual is basically what the car is worth at the end of the lease.
In practical terms, the residual is a big, one-off payment, but it works differently to the other payments during the lease. That’s because you can’t make the residual using pre-tax money.
It needs to be made separately, so out of your savings or using the trade-in value of the car if you’re trading it in.
That last point is the key one. For the vast majority of novated leases, the customer doesn’t actually make a residual payment using their own money. They trade in their car at the end of the lease and the sale value of the car covers the residual. In a lot of cases the sale value is more than the residual so the customer keeps that as profit. Then they start a new lease with a newer car.
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How much is the residual value on a novated lease?
The residual value will be a percentage of the value of the vehicle you’re leasing. Because novated leasing involves tax, the minimum percentages are set by the ATO. These percentages are a rule of thumb for what the vehicle will be worth at the end of the lease. Obviously that percentage will be different depending on how long the lease is.
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Minimum novated lease residual values set by the ATO
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Lease length | Residual percentage |
|---|---|
5 years | 28.13% |
4 years | 37.5% |
3 years | 46.88% |
2 years | 56.25% |
1 year | 65.63% |
How the residual on a novated lease can be beneficial
Now, the beauty of this set up is the residual percentage is exactly the same no matter what kind of vehicle you’re leasing, even you're novating a used car. This is where people who pick the right car can end up doing very well.
If the car you buy is going to hold its value well, the residual at the end is going to be much lower than what the car is actually worth. So, if you sell the car or trade it in, the money you get from that will easily power the residual and you get to keep any difference as (tax-free) profit.
Think about it, your residual is set at the start of the lease based on the value of the car at that point. Let’s say you have a five-year lease. In that five-year period, the price of used cars is probably going to go up due to inflation. But your residual is fixed.
Let’s look at an example based on a lease I set up for a client recently.
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Novated lease residual value example
A client recently took out a novated lease on a brand new Mitsubishi Outlander, valued at around $42,500 (ex-GST), for a five-year term. The residual on that will be 28.13% or around $13,170.
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If you look at current resale values for a five-year old Mitsubishi Outlander, you’re talking about ranges from around $16k - $25k. Five years from now, those resale values will likely be higher. Also, the standard warranty on a Mitsubishi is seven years, so that car will still be comfortably within its warranty.
So in 2028 when that client’s lease ends, they can pay the residual to own an asset that’s still got two years left on its warranty and is potentially worth almost twice what they paid for it. Or they can trade in the car, pocket the difference in profit and then go again with a new notated lease. That’s not a bad position to be in.
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How to maximise the profit on your residual
If you’re open minded about what car to choose, it’s definitely worth factoring in the resale value. This is true of any way of buying a car but with a novated lease, you’ve got an actual dollar figure (the residual) you’re trying to beat by as much as possible to maximise your profit. Here are some tips to keep in mind if you're weighing up what car to buy:
01
Choose an in-demand car
Get a car (and colour) that will have high resale demand. Take a look at the best selling cars in Australia - they’re mostly utes and SUVs.
03
Sell within warranty
Looking for the longest manufacturer’s warranty possible and ideally get a lease that ends while there’s still time left on the warranty.
02
Avoid crazy modifications
You want a car that’s going to appeal to a big number of buyers. But if you plan on keeping the car, go nuts.
04
Maintain the vehicle well
Servicing, replacement tyres and even car washes can be included in your lease with a GST discount and income tax saving. Make the most of these to keep your car in good condition.
Why do novated leases have a residual?
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You’re technically only leasing the car during the novated lease term. The regular payments from your salary give you unrestricted use of the vehicle and cover your running costs, but they don’t go towards actually paying off the car.
It gets a bit technical here but basically in order to enjoy the tax benefits of a novated lease, the vehicle needs to be owned by the leasing company.
The residual at the end gives you the opportunity to own the vehicle, but if you do that, the tax benefits come to an end. That’s why most people don’t actually make the residual payment to take ownership of the car. They either extend the lease, or trade in the car and start a new one to keep the tax benefits going.
