If your business needs vehicles, one of the first decisions is generally how to finance them.
Novated leasing and chattel mortgages are common ways for Australian businesses to achieve this – as an alternative to purchasing a fleet.
Both chattel mortgage and novated leasing can be the right choice in different circumstances – but which one is best for your business?
To make this decision, it’s important to understand how each option will affect your balance sheet, tax liabilities and exemptions – and cash flow.
What is Novated Leasing?
A novated lease is a three-way vehicle finance agreement between employee, employer and the financier. Effectively, the employee pays for the lease of their car by salary sacrificing a portion of their pre-tax income.
Novated leasing is suitable for businesses looking to offer salary packaging as part of their benefits. It can be an attractive employment benefit as it provides major income tax savings.
Loan payments, running costs, lease management fee and Fringe Benefits Tax (FBT) can largely be deducted from pre-tax income. The FBT liability can be offset by using the employee contribution method (ECM) which involves taking a portion of your lease payments from a post-tax environment.
What is a Chattel Mortgage?
A chattel mortgage (also known as a bill of sale or equipment loan) is a loan agreement where the funds are borrowed to purchase equipment or trucks for commercial purposes, and a charge is taken over the goods that are financed.
In addition to flexibility, there are several benefits of using the chattel mortgage such as tax deductions, the capacity to claim GST and payment flexibility.
Once a chattel mortgage is established your business can claim the GST on the initial purchase price of the vehicle. While a balloon payment can also help reduce the monthly repayment amount, freeing up cash flow.
The key differences lie in the levels of asset ownership and business tax benefits.
A chattel mortgage gives your business full ownership of the assets, funded by a lender. The asset is recorded on your balance sheet and all interest is tax deductible.
A novated lease is like a long term rental agreement – the employee is paying for fair use of the vehicle. Their monthly payment includes the vehicle operating costs like registration and servicing.
If you’re leasing a vehicle “in the course of carrying out your business”, then the GST on the lease arrangement can be claimed as a credit.
Which is right for your business?
Choosing the right finance option will depend on several things, like the type of business you own, your tax position and the type of asset you need.
You should ask yourself these key questions:
- How much can your business afford to pay on finance (in terms of interest and fees)?
- Does your business require full ownership of the asset?
- Will you need to upgrade the asset during the term of the agreement?
- How much GST or tax can your business claim?