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Making a salary sacrifice...

August 2009

Salary sacrifice Previously a director’s perk, salary sacrifice schemes are increasingly offered by employers to mitigate tax and to allow employees more flexibility on how they take their remuneration. Under these arrangements, employees can trade part of their salary for other benefits, such as an allocation to their pension or childcare vouchers.

Having part of a salary or bonus paid into a pension scheme has particular tax advantages. If an employee sacrifices, for example, £100 of gross salary every month and has this paid into their pension scheme, they save tax at their marginal rate plus national insurance contributions. Salary sacrifice also has advantages for the employer, who saves on NI contributions. Some companies may rebate this back to the employee, while others may simply use it to cut overheads.

The maths of salary sacrifice for pensions is compelling. Higher-rate tax payers therefore receive £100 of investment for just £59 of net salary sacrificed, while, for basic rate tax payers, it would cost £69. This works because for every £100 in salary, taxpayers would pay tax and national insurance (NI) at their marginal rates which would be saved by sacrificing it to the pension scheme.

If the gross salary is paid directly into the pension scheme, no tax is payable so the full £100 goes in. If the employer then rebates its 12.8% national insurance contribution, this gives a total pension contribution of £112.80. With the tax increases introduced in the 2009 Budget, this has become an even more beneficial option for those earning between £100,000 and £150,000.

Salary sacrifice is also tax-efficient for other benefits because employees receive the gross value of the benefit. For example, where a higher-rate tax-paying employee swaps £2,000 of salary for the equivalent value in childcare vouchers, they would only have taken home £1,180, whereas they will enjoy the full £2,000 worth of vouchers.

Employees must be careful they do not commit to take a salary cut they cannot sustain. Reducing overall salary could have knock-on effects for mortgage applications, death-in-service benefit and income protection for sickness. For low-earners, it may also reduce their entitlement to certain income-related benefits, such as maternity benefit or the state pension.

Employees also need to ensure their employer’s pension merits additional contributions. If the scheme is weak or inflexible, it may not be worth the sacrifice. Some employers have been willing to contribute to employees’ personal pensions. HR departments have proved themselves flexible on this and it is always worth seeing what can be negotiated.

Shirebrook Financial Services Ltd is authorised and regulated by the Financial Services Authority. The contents of this article do not constitute advice and should not be taken as a recommendation to purchase or invest in any of the products mentioned. Before taking any decisions, we suggest you seek advice from a professional financial adviser.

All figures and data contained within this article were correct at time of writing. Revised: 03-09-2009.

Making a salary sacrifice...

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