Salary sacrifice – Pensionfinder
Salary sacrifice is an arrangement whereby an employee agrees to reduce their salary from the terms agreed in their employment contract in exchange for a benefit in kind. As an employee you sacrifice some of your salary, and your employer uses that bit of your salary to provide tax efficient employee benefits. Common uses of salary sacrifice are pension contributions, childcare vouchers and bike loans.
One off payments, such as a bonus, can also be use with a salary sacrifice scheme.
How salary sacrifice works for pension contributions
If you are a member of a company pension scheme, you may be able to join a salary sacrifice scheme to help boost your pension contributions. In this case, the amount of salary that you sacrifice will be paid in to your pension scheme by your employer and is typically free of both National Insurance (NI) and tax.
As you have sacrificed some of your gross salary you will have a smaller amount of take home pay. However, a lower salary also means that both you and your employer pay less National Insurance, and you may pay less tax with a reduced income.
Depending on the terms of the salary sacrifice deal, your employer will pay all or some of their savings on National Insurance Contributions (NIC) into your pension pot, as well as the amount sacrificed. Usually employers split the NI contributions 50/50, but some will pass all of their NI savings on to their employees.
Usually, if a basic rate taxpayer pays £100 from their net pay into an occupational pension they will qualify for a further £25 from tax relief, giving them a total of £125. But through a salary sacrifice scheme that same £100 contribution is boosted to around £144, because of the savings on NI and tax relief. It could also be boosted further still if the employer pass on some of their NI savings.
Advantages of salary sacrifice
Tax efficiency is the main advantage of salary sacrifice, with the employee being able to save on NI, and perhaps income tax because their earnings are reduced. Their pension contributions are also boosted by both tax relief and NI savings.
If an employer passes on some (or all) of their NI savings, their employees could benefit from a boost to their pension contribution and ultimately their pension pot.
Generally those below the upper earning limit for National Insurance Contributions have the most to gain from salary sacrifice.
Disadvantages of salary sacrifice
As salary sacrifice reduces your earnings it can also reduce entitlements to certain earning –related state benefit, such as Statutory Maternity pay , Statutory Sick pay and the State Second Pension.
Reduced earnings can also affect the amount you are able to borrow, including as a mortgage.
If your employer also offers life assurance as a benefit this may be reduced to reflect your earnings after the sacrifice, although some employers provide pre-sacrifice life cover. Redundancy pay may also be affected by joining a salary sacrifice scheme.
Employees should not reduce their earnings so that they fall below the National Minimum Wage.