Novated Lease Vs Car Loan: Your guide to choosing

Most people in Australia finance their car one way or another. By far the most common option is a car loan (including dealer finance, which is basically a car loan). The other main opinion is a novated lease.

Now, at least part of the reason why car loans are more popular than novated leases is accessibility. Car loans are available at dozens of banks and online lenders. You’ll also almost certainly be offered a car loan if you buy a car through a dealer.

Novated leases are not as widely available and can be harder to understand. That’s the perception anyway. In reality, most people can get a novated lease if they want one and once you understand how a novated lease works, there are several advantages you don’t get with a car loan.

How does a novated lease work?

A novated lease lets you pay for your choice of car (including used cars) for private use by making contributions directly from your salary through your employer.
At least some of the payments come from your pre-tax salary which means you save on income tax.
The vehicle is purchased on your behalf by a leasing company. This is classed as a business purchase so there’s a GST discount on the vehicle which is passed on to you (this saves you up to $6,191 depending on the vehicle’s value).
The lease company technically owns the vehicle during the lease term but you have unlimited use of it.
You can package your car running costs into your lease payments with a GST discount on those costs (insurance, fuel/electricity, registration, servicing tyres).
Novated lease finance is subject to approval, with interest (fixed rate) and fees applied as there would be with a car loan. All costs are included in your regular salary deduction.
Novated lease terms range from 1-5 years.
Novated leases involve a residual payment that’s due at the end of the term. When this is due you can: pay the residual to own the car; trade in the car and start a new lease with a new car (the trade in value covers the residual and any profit on the sale is yours, tax-free); or you can renew the novated lease for a new term with the same car.
As an employee benefit, novated leases are subject to fringe benefits tax. But there are exemptions novated leases for EVs and PHEVs.

Novated lease: The good

Tax savings (GST and income tax).

Convenience. You can cover pretty much all your car costs with one payment that’s automatically deducted from your salary.

You can use it for more or less any passenger vehicle even if it’s 100% for personal use.

Novated lease: The bad

Fringe benefits tax may apply.

The residual means there’s a large one-off payment due at the end of the lease.

Only available if your employer offers this benefit or is prepared to facilitate it for you.

How does a car loan work?

You borrow money from a lender to fund the purchase of a vehicle.
You own the vehicle from the start but the lender keeps an interest in it and can repossess it if you can’t repay the loan.
The repayments (weekly, fortnightly, or monthly) cover the loan amount plus interest and lender fees.
Repayments are entirely separate from your salary and there is no tax impact one way or another.
Ongoing car expenses are also kept separate from your car loan.
Car loan terms are usually from 1-7 years but you can usually pay off the loan early if you want (fees may apply if you do that).
There’s often the option to include a balloon payment on the car loan. This is a large single payment (similar to a residual) that’s due at the end of the car loan term. It reduces the regular payments but means higher interest costs over the loan term.

Car loans: The good

Offered by a wide number of lenders

You own the car from the start, meaning you can modify it if you want.

Some car loans let you make extra repayment to pay the loan off early with no penalty fees.

Car loans: The bad

No tax savings compared to a novated lease.

Usually higher regular repayments than a novated lease.

Rates can be very high for borrowers with bad credit.

Novated lease vs car loan examples

It’s often easier to get your head around the difference between a car loan and a novated lease by looking at some examples.

EV novated lease example: Tesla Model 3 (Long Range)

The savings on a novated lease versus a car loan are most noticeable on EVs and PHEVS that qualify for the government’s fringe benefits tax exemption.

* Calculation assumes a driver in NSW, driving 15,000km per year with annual gross salary of $120,000. Running costs include elecrtricity comprehensive car insurance, registration and CTP, servicing and tyres. Car finance rate assumed to be 7.50% p.a.

Novated lease vs car loan: Mazda BT-50 (XT 4X4)

This example is based on a ute that’s not eligible for the FBT exemption. For this example, we’ll base it on a driver with a lower annual income and a cheaper vehicle. The savings are still considerable.

* Calculation assumes a driver in NSW, driving 15,000km per year with annual gross salary of $120,000. Running costs include fuel, comprehensive car insurance, registration and CTP, servicing and tyres. Car finance rate assumed to be 7.50% p.a.

When is a car loan better than a novated lease?

Basing the decision purely on price, a novated lease will save most people money compared to a car loan. But there are some scenarios where a novated lease might not work.

Your employer won’t facilitate a novated lease.
You anticipate being out of work for a prolonged period. If your employment income stops, you’ll still need to cover the lease payments from another source (without the tax saving). This would also be the case with a car loan so you may not actually be any worse off, but it is an extra potential complication with a novated lease.
You plan to modify the car after you’ve taken delivery of it. You can’t do this with a novated lease.
The car is very old. To be eligible for a novated lease the car must be less than 12 years old at the end of the term. If the car you want doesn’t not qualify based on age, an unsecured car loan (personal loan) might be more suitable.

The comparison is quite different is you’re comparing a novated lease to buying the car outright with cash. We’ve covered this topic separately.