Novated Leases and Deductibility of Running Costs
Including a car in a salary package is a popular remuneration arrangement, and doing so as part of a salary sacrifice package will often give rise to a “novated lease”. Vehicle’s operating costs can also be salary sacrificed. This is referred to as fully novated lease.
A novated lease arrangement is a popular way by which employers reward and incentivize their employees. Under the right circumstances, employees can reduce their personal tax liability under a salary sacrifice arrangement involving a novated lease.
A novated lease is a three-way deal – between an employee, a financier, and the employer. The employee owns the car, and the employer agrees to make lease repayments to the financier plus pay for any running costs for that car as a condition of employment.
Under such an arrangement, the employer takes over all or part of the lessee’s rights and obligations under the lease of the employee’s car. This transfer of rights and obligations is agreed to in a “deed of novation” between the employer, the finance company and the employee (lessee). The lease obligation reverts to the employee once they leave their employer.
Under a novated lease, apart from paying for the car lease repayments, the employer would normally pay for the car’s running costs, such as fuel, maintenance, registration and car insurance. For example, some employees are given a fuel card to help pay for fuel.
Can you claim deduction for after-tax running costs?
A question commonly asked by taxpayers is whether the running costs incurred by them from their after-tax income are deductible on their personal return.
And if Yes, can they use one of the two methods available for deduction (that is, the cents per kilometer method or the log book method) to claim a deduction for car expenses?
After-tax running cost deductions denied
Car expenses incurred by an employee in respect of a car provided by an employer are specifically denied by ATO.
In particular, a deduction for “car expenses” is denied where:
- an employer during a period provides a car for the exclusive use of a person who is, or of persons any of whom is, an employee of the employer or a relative of such an employee, and
- at any time during that period, the employee or a relative of the employee is entitled to use the car for private purposes.
Also, note, a deduction is not allowed if the car is used by a relative such as a spouse, a parent or a child.
In this case, the running costs incurred by an employee from their after-tax income in relation to the car fringe benefit would not be deductible to them due to the operation of relevant ATO legislation. In other words, you cannot claim a deduction for those costs – whether by using one of the methods or as a general deduction prescribed by ATO.
Notwithstanding the above, an employee may still benefit from the arrangement. The after-tax contributions towards the car’s running costs reduce the amount of Fringe Benefits Tax (FBT) that they would have been required to salary sacrifice as a component of the total remuneration.
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