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Car Allowance vs Novated Lease – Pros and Cons

Written by Melissa Grimshaw

Thinking of getting yourself a new car? 

Within the last few weeks, I have come across similar questions around whether I should take a Car allowance or a Novated lease as part of my renumeration packaged offered by my employer.

Which is better? 

The answer – naturally depends on your situation and the use of the car and whether you have a need for a new car.

A car allowance is often offered to employees by their employers where they need to use their car as part of their job.  It is often an additonal income payment, to specifically cover the cost of motor vehicles expenses ie fuel, insurances, servicing, registration, car loan repayments etc.

Car allowances are usually taxed at your personal marginal tax rates and do not attract the Fringe Benefits Tax.  Any work-related usage of the car is then claimed as a tax deduction at the time of lodging your tax return each year using ATO approved methods.

If you are looking to buy a car, often, often you do this via a car loan, and use the car allowance to help fund the cost of the loan and running expenses of the vehicle.  Therefore, loan repayments in this instance are generally being funded post tax dollars.

Novated Lease is a way to finance the purchase of a car (new or used) and can allow you to bundle the vehicle running costs in one simple payment.  Three parties are generally involved in this form of arrangement – your employer, yourself, and the leasing company.    The repayment is made via a salary sacrifice arrangement with your employer.

This means that the lease payment is made before tax by your employer, which reduces your cash salary before income tax is applied and passed to you- net of tax.

This sounds great right?  What’s the catch? 

The catch is that dependent on your employer, this arrangement is subject to Fringe Benefits Tax (FBT).  A FBT component is calculated using either a statutory formula or operating cost, and the amount that is calculated as the benefit, attracts an FBT tax rate of 47% (45% + medicare 2%).

Therefore, if you are on a lower tax rate, you may be better to receive salary taxed as income rather than a benefit that is subject to FBT.

Most employers pass on the FBT tax to the employee, even though they are liable for paying the FBT.  You can reduce this, by undertaking what is called employee contribution method (ECM) and pay for the FBT value in post-tax dollars.

Essentially, you have an amount take out of your salary as pre tax and an amount as post tax to eliminate the FBT tax component.  This is where things can get complicated.

If you are employed by an organization that is FBT exempt eg religious institutions or charities or nonprofit hospitals, this is better for you than being employed by a company that is not exempt or only partially exempt such as schools.  The other catch is that the higher your personal marginal tax rate ie 47% inc medicare, the more effective salary packaging a car is for you.

Car Allowances Vs Novated Leases – Pros and Cons

Car Allowances – Pros

  • Car allowances are exempt from Fringe Benefits Tax
  • You are in control of how the car allowance is spent each year, as you are responsible for the overall loan repayments and running expenses of the car.

Car Allowances – Cons

  • Required to maintain a car logbook for tax purposes and proof of deductions.
  • The allowance is taxed at your personal marginal tax rates as considered as normal taxable income.
  • To be effective, you may wish to have some work-related expenses ie use your car for work as well as private.

Novated Lease – Pros

  • You can use the car 100% for private use and receive some tax benefits.
  • The cost of the car is usually less, as able to purchase ex GST and repayments are pretax rather than post tax dollars. Some salary packaging companies can even obtain significant discounts on the cost of a new car, through car dealers due to their buying power.
  • You can lease the cost of the car and estimated running costs of the car in the one lease payment before tax.
  • Most effective for those that are on the highest personal marginal tax rates.
  • From 1 July 2022, FBT was removed from zero and low emission vehicles ( up to the luxury car tax threshold) for salary packaging – eg buying an electric car

Novated Lease – Cons

  • Novated Leases attract Fringe Benefits tax in most cases.
  • Often a salary packaging company is used eg RemServ which charges administration fees.
  • You have a Balloon payment at the end of the lease, whereby you need to either refinance the residual or trade and purchase another car in a lease arrangement.
  • You can have two deductions taken from your salary – pretax and post-tax for the Employee Member Contribution to cover FBT liability.
  • Lease terms are normally up to 5 years or less.
  • Leave your employment, the lease become de -novated and you become liable for standard repayments from post-tax dollars until employed again.

Let’s look at a case study, to show the tax and net cashflow impact of  car allowances vs novated lease.

Case Study

Meet Joanne and Jack (both single and have private health), both employed by an organization that attracts full FBT tax.  Both Joanne and Jack are on similar salary of $120,000 per annum.  Jack salary is $100,000 + $20,000 car allowance.

Jack uses his car for work incurring $7,000 in yearly work-related expenses (assume logbook method) Joanne uses her car for work as well, but under a novated lease cannot claim any additonal work related expenses as built into the lease payments.   They are each looking to borrow $60,000 to buy a new car -assume petrol.

  • Novated Lease using a 5-year term equates to $620 per month estimate. (approx. 28.13% of value is residual   – ATO determines)
  • Car Loan using a 5-year term equates to $1,249 per month estimate.

Note:  End of the term the car loan is paid out and you own the car.  Under the lease, end of the 5-year term, you will have a residual to pay out -either refinance or new lease or pay from your cash reserves or sell.

  • Joanne – chooses a novated lease – salary packaging with her employer.
  • Jack – chooses a car allowance – receive a car allowance of $20,000 per annum.
Current tax position without car – Joanne and Jack Joanne

With a Novated Lease


With a Car Allowance

Gross Salary 120,000 120,000 100,000
Less:  Lease payment 0 (7,445) 0
+ Car Allowance 0 0 $20,000
Less:  Deductible work-related expenses 0 0 $(7,000)


= Taxable Income 120,000 $112,555 $113,000
Net Tax payable inc Medicare $31,867 $29,298 $29,452
Net Take Home Pay after tax $88,133 $83,257 $90,548
Less –FBT ECM contribution (using statutory formula ie ($60,000 * 20%) $0 ($12,000) $0
Less: Loan repayment on car $0 $0 ($14,988)
Reduced Net Income after tax $88,133 $71,257 $75,560

Please note: Novated lease costs are estimated provided by Remserv and Car Loan estimates are provided by Westpac bank calculators.  Therefore actual costs may differ by providers. The above is for illustrative purposes only.

REMEMBER:  Salary packaging or taking an allowance is ultimately only beneficial if you have a need.  If you don’t, you may be better to simply receive your salary as is.  Also, salary packaging can be ineffective if there are no tax concessions to be gained

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