What Is a Novated Lease and How Does It Work?

A novated lease is one of those arrangements that sounds complicated until someone draws the triangle. Three parties, one car, and a set of payments that come out of your salary before tax instead of after it. This guide explains what a novated lease is, how the money actually moves, what FBT has to do with it, and what happens at the end. Treadgold Finance doesn’t arrange novated leases, so there’s nothing being sold here; if you want the verdict rather than the mechanics, our companion guide asks is a novated lease worth it.

The three parties

A novated lease involves you, your employer, and a finance company, tied together by a document called a deed of novation.

• The finance company owns the car and leases it.
• You choose the car, drive it, and are the one the lease ultimately belongs to.
• Your employer takes on the obligation to make the lease payments while you work there, deducting them from your salary.

“Novation” simply means transferring an obligation from one party to another. The lease starts as an agreement between you and the financier; the deed of novation transfers the payment obligation to your employer for as long as you’re employed there. That transfer is the whole mechanism, and it’s also the arrangement’s main weakness, which we’ll come to.

How the money moves

Once the deed is in place, the sequence each pay cycle is:

1. Your employer deducts the lease payment from your salary, along with the running costs if they’re packaged in.
2. Some of that deduction comes from your pre-tax salary and some, usually, from your post-tax salary (the reason is FBT, below).
3. Your employer pays the financier and the packaging provider.
4. You get your reduced net pay, with the car and most of its running costs already paid for.

The benefit comes from step two: money taken before tax reduces your taxable income, so part of the car is effectively paid for with income you’d otherwise have paid tax on. How much you save depends on your marginal tax rate, which is why the same lease is worth more to a higher earner.

What can be packaged

Most novated leases are fully maintained, meaning the budget covers not just the lease payment but the running costs: fuel or charging, registration, insurance, servicing, tyres, and often roadside assistance. The packaging provider estimates the annual cost, spreads it across your pay cycles, and reconciles it periodically. That’s the budgeting appeal: one deduction instead of a dozen bills. A non-maintained lease covers the finance only and you pay running costs yourself.

FBT, and why part of it is post-tax

Because you get private use of a car your employer is paying for, the arrangement is a fringe benefit, and fringe benefits tax is the employer’s liability. Nobody wants to pay it, so novated leases are structured to cancel it out.

The standard method is the employee contribution method: you contribute part of the cost from your post-tax salary, and that contribution reduces the taxable value of the benefit, typically to nil. That’s why a typical novated lease is a mix of pre-tax and post-tax deductions rather than all pre-tax. The pre-tax portion is where the saving lives; the post-tax portion is what keeps FBT off the table.

There’s an important exception. An eligible electric vehicle provided through a novated lease is exempt from FBT under current rules, so no post-tax contribution is needed and the whole cost can come from pre-tax salary. That’s why EV novated leases have become so popular and why the saving on them is much larger. Plug-in hybrids lost that exemption from 1 April 2025 unless a binding commitment was already in place, and eligibility depends on the car’s value sitting under a set threshold, so check the current ATO position before assuming a car qualifies.

One thing that catches people: even an FBT-exempt EV still counts toward your reportable fringe benefits amount, which can affect things like the Medicare levy surcharge, study loan repayments and some government entitlements. It isn’t taxed, but it isn’t invisible either.

GST

Because the financier acquires the car, you generally don’t pay the GST component of the purchase price, up to the car limit, and GST on packaged running costs is handled through the arrangement as well. It’s a genuine saving and one of the reasons a novated lease can beat a straight car loan on total cost, at least for the right person.

The residual

Every novated lease has a residual value, sometimes called a balloon: a lump sum representing the car’s assumed worth at the end of the term. It isn’t optional, and it’s set in line with the ATO’s minimum residual guidelines for the length of the lease, with longer terms carrying lower residuals. The residual keeps the regular payments down, because you’re not paying the car off in full over the term. It also means there’s a bill waiting at the end. If you’ve met a balloon on a car loan before, it’s the same idea; our guide to balloon payments explains the trade-off.

What happens at the end of the term

You have three choices:

• Pay the residual and keep the car. It becomes yours outright. Some people refinance the residual to spread it.
• Trade it in or sell it. If the car is worth more than the residual, the difference is yours. If it’s worth less, you cover the shortfall.
• Re-lease. Start a new term on the same car, or hand it over and take a new lease on a new one.

Whether it ends well comes down to one number: the car’s market value against the residual on the day.

What happens if you change jobs

This is the part worth understanding before you sign. The novation is tied to your employment, so if you leave, the lease reverts to you personally. Your options are to novate it to a new employer that offers salary packaging, keep paying it from your after-tax income (which removes the tax benefit entirely), or pay it out. An EV’s FBT exemption doesn’t automatically follow you either. The car doesn’t go away, and neither does the obligation; only the tax-effective structure does.

Who can get one

You need to be an employee whose employer offers salary packaging. Sole traders, contractors paid on invoice and business owners who pay themselves outside a salary can’t use a novated lease; for business vehicle use, a chattel mortgage is the usual structure, and our guide to business car tax deductions covers the deductions available. Employers of some hospitals and charities have their own FBT concessions, which change the maths again.

Novated lease or car loan?

They’re different products for different situations. A car loan is paid from after-tax income, you own the car from day one with the lender holding security over it, there’s no employer involved, no FBT, no reportable benefit, and no exposure if you change jobs. A novated lease can be more tax-effective, especially for an eligible EV on a higher marginal rate, at the cost of tying the arrangement to your employment and committing to a residual. We’ve compared them properly in is a novated lease worth it, and if a loan is the better fit, our car loans page sets out what we arrange and how car finance works covers the process.

This article is general information only and is not tax, legal or financial advice. Treadgold Finance does not arrange novated leases. FBT rules, the electric vehicle exemption and residual requirements are set by government and change; confirm the current position with your accountant or the ATO.

Damo Treadgold is the director of Treadgold Finance, an FBAA-accredited finance broker on the Sunshine Coast, arranging car, boat, equipment and business finance Australia-wide.

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