Salary Sacrifice (July 2009)
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SALARY SACRIFICE: A GUIDE FOR EMPLOYERS
What is salary sacrifice?

Salary sacrifice (sometimes called salary exchange) is a tax-efficient agreement between an organisation and its employees, where the employee agrees to ‘give up’ an amount of future earnings (either salary and/or bonus). In exchange, the employer must agree to pay the equivalent amount into a pension arrangement on the employee’s behalf or provide a commensurate non-cash benefit.

Salary sacrifice is fully recognised by the HM Revenue & Customs as a tax allowable way to fund an array of employee benefits, including pension planning, childcare vouchers, bikes for work and certain voluntary benefits under flexible benefit schemes.

HM Revenue & Customs has also confirmed that it will consider the remuneration package as a whole for the purposes of any ‘wholly and exclusively’ test.  It is essential that the arrangement constitutes a formal change in the employee’s contract of employment and both employer and employee agree supporting documentation.

The savings on tax and National Insurance can be re-routed into the pension arrangement to enhance the amount invested for pension purposes. If the employer is prepared to become involved to the extent of investing their NI savings into the pension arrangement, then a further enhancement can be achieved.

As a result, these savings could mean greater pension savings into the employee’s pension plan at no extra cost to either the employee or employer.

When can salary sacrifice apply?

There must be an employee/employer relationship — the self-employed are not eligible.

The agreement covers future earnings only. The arrangement cannot apply to earnings to which the employee has already become entitled.

What are the benefits?

Benefits to the employer

  • they have no additional costs
  • the benefits package they offer their employees is improved
  • increased pension contributions are tax deductible against profits

Benefits to employees

  • contributions to their pension can be enhanced
  • contributions to their pension can be enhanced
  • provides a very efficient way to fund for retirement

When is the right time to look at salary sacrifice?

The most obvious time is when setting up new pension arrangements for employees. However, salary sacrifice can be set up at any time.

For example:

  • when the accounting year–end is approaching, salary sacrifice can be included in  financial forecasting
  • when planning salary increases or to offer discretionary bonuses
  • when you have key employees* (such as directors or high earners) who may be more receptive to the idea

*Please note that new rules, introduced at the recent budget, for high earners could mean that the possible benefits of salary sacrifice are reduced or removed and could lead to a special tax charge.

Are there any drawbacks?

There can be for some people. It is important to remember that a part of the salary is genuinely being sacrificed so other transactions based upon salary may be affected.

For example:

  • mortgage borrowing
  • contribution-based state benefits such as state pension or incapacity benefit
  • working tax credit and child tax credit
  • personally funded income protection benefits
  • personal borrowing

Salary sacrifice is not permitted if the employee’s salary would be reduced to a level below the national minimum wage.

How it works

Here is an example of how a salary sacrifice arrangement might enhance a pension contribution for an employee.

Assume the employee is a basic rate taxpayer and normally contributes £100 each month from their take-home pay into an employer sponsored group personal pension plan. This is equivalent to £144.93 of gross earnings before income tax and national insurance contributions are deducted.

If the employee agrees to a salary sacrifice of £144.93 per month (£1,739.16 per year), then their take-home pay will stay exactly the same while their pension contribution increases by £461.76 a year.

In the example below, the employer agrees to pass on fully the National Insurance saving made on the sacrificed earnings to enhance the contribution. This is cost neutral for the employer.

Personal contributions vs Salary sacrifice

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Call Cartlidge Morland to find out how we can help you implement salary sacrifice.

Cartlidge Morland is an independent employee benefits consultancy. We provide benefit services to a wide range of partnerships, family companies, PLCs, charities and governmental organisations. We also provide financial advice to private clients, investment management and mortgage broking services.

          Phone us on 020 7709 5560 or complete the online contact form