Employee Contribution Method

Background

The Novated Lease has evolved to become the method of choice for Executives and Managers wishing to drive their vehicle of preference in the most cost and tax effective arrangement available.

Originally, the focus of Salary Packaging vehicles tended to be on the higher salary earners within an organisation, as they were perceived as having more to gain from such arrangements than those whose incomes fell under the top marginal tax rate.

As a result of this perception, Novated Lease programs were typically established using the Statutory Fraction Method (FBT Method) as it is easy to understand and implement and provides the greatest benefits to the higher salary earners.

However, as at June 30th 2006, the top marginal tax rate will not cut in until a salary of $150,000 is reached.

To ensure your Employees are not disadvantaged by this fundamental shift in tax rates and that they obtain the maximum benefits from your Vehicle Packaging Program, 'now' is the time to introduce the Employee Contribution Method (ECM) as the primary option in your Vehicle Packaging Program.

The introduction of the ECM will ensure that all of your Employees whose salaries will be under $150,000 (after packaging) next year will have their benefits significantly increased when compared to staying with the existing FBT Method.

Why is it so?

To understand why the ECM is a more tax efficient arrangement for those under the top marginal tax rate you first need to review the FBT formula.

The formula for calculating FBT on a Statutory Fraction Novated Vehicle is:

Capital Value X Statutory Fraction X 46.50% X 2.064662

The reason that the FBT Method disadvantages those on lower incomes is because the Fringe Benefits Taxable Value of the vehicle is ‘grossed up’ at 46.5% which is the top marginal tax rate.

If your own personal top marginal tax rate (after packaging) is below 46.5% then there is a better way to structure your new or next Novated Lease. The ‘better way’ is called the ECM.

The ECM is well established in tax law and allows an employee to make a contribution towards the running costs of their motor vehicle from their After Tax (Nett) Salary.

For every after tax dollar that an Employee contributes to the running cost of the vehicle they reduce the FBT liability on the vehicle by the same amount.

In practice, this means that, as a substitute for FBT, an after tax contribution may be paid by an individual Employee up to the Taxable Value of the vehicle.

Want to be a part of this?

As Australia’s pioneers of Novated Leasing, SMB has been at the forefront of proactive product development. While many of our competitors have only recently begun to offer the ECM, SMB have provided this option to our clients since 2000. Over the past 5 years our purpose built systems have ensured that thousands of Employee’s have been provided with this successful, cost effective Novated Leasing alternative.

At SMB we believe that the level of savings available to Employees via the ECM are simply too large to be ignored and that the goodwill an Employer can generate by allowing its entire Employee base to benefit from Vehicle Salary Packaging should be pursued.

In order for your Employees to fully take advantage of the ECM, SMB has prepared a comprehensive Employee Information Program that is made available via email or in-house workshops at your premises.

For details of the Employee Information Program please contact us or telephone on 02 9452 9600 and ask for our Client Relationship Manager

For a typical example:

The salary comparison is as follows:

The savings:

So, by simply packaging a car using the Employee Contribution Method this employee has saved over $2,455 after tax each year which represents an improvement of 5.5% on an ‘unpackaged’ arrangement! The benefit improvement of the Employee Contribution Method over the Statutory Fraction Method is more than 600%!

Administrative changes required for the ECM

From an administrative perspective, the changes involved with the implementation of the ECM are minimal. The Vehicle Salary Sacrifice Schedule that forms the basis of your current FBT Method program has been modified slightly to accommodate an Employee’s after tax contribution. The fundamental change to the entire process is a change to the way that the Employee’s salary is structured.

With the ECM the monies required to run the vehicle come from two sources:
Source 1 is the pre tax contribution
Source 2 is the after tax contribution

As an example: An employee is driving a $30,000 vehicle 16,000 kms per year. The running costs (Fuel + Maintenance + Lease Costs + Insurance + Registration + etc) total $13,000 per annum.

With the ECM the Employee will pay:
$7,000 p.a. from before tax income as a Salary Sacrifice (Source 1) and,
$6,000 p.a. from after tax income (Source 2).
Accordingly, if the Employee’s total gross annual salary was $77,500 then the new salary package would be structured as follows:

To enable the transition the payroll department of the above company would need to structure the employee’s salary as described above and this will be the only change to the existing system.

Our monthly Funds Transfer Request (invoice) has been modified to identify both the pre and post tax components while payment methods will remain the same as your existing arrangements.