What is salary sacrifice?
Salary sacrifice, or salary exchange, is a tax-efficient agreement between you and your employer, where you agree to give up an amount of future earnings (either salary or bonus). In exchange, that amount is paid into an occupational or personal pension scheme on your behalf along with some additional money that the employer can newly afford to give you since making a National Insurance Saving.
As pension contributions are not liable for Income Tax or National Insurance, by exchanging salary for pension contributions, you will actually receive more money overall.
Added together, these savings mean more money goes into your pension plan at no extra cost to you or to your employer.
What are the benefits?
Benefits to you
- Contributions to your pension are increased at no further cost to you or your employer
- You make income tax and National Insurance savings
Are there any drawbacks?
There can be for some people. It’s important to remember that a part of the salary is genuinely being sacrificed. So any transactions based on amount of 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
- income protection benefits
- personal loans or credit card limits
- Salary sacrifice isn’t recommended if your salary would be reduced to a level below the national minimum wage
How it works
Here’s how a salary sacrifice arrangement might affect you.
Let’s say that you earn £70,000 per annum, and already contribute £400 per month net each month into a personal pension scheme. The example below shows how stopping your ‘personal’ contribution, plus a reduction in salary in exchange for a newly created ’employer pension contribution’, can increase the the total amount you invest into your pension each month.
|Before Sacrifice||After sacrifice|
|Annual: Gross earnings||£70,000.00||£63,793.10|
|Annual: Income tax||£16,000.00||£14,717.24|
|Monthly: Your pension cont. (net)||£400.00||–|
|Monthly: Net disposable income||£3,705.59||£3,705.59|
|Employer’s Annual NIC||£8,540.54||£7,683.99|
|Employer Monthly pension contribution||–||£588.62|
|Cost to Employer||£78,540.54||£78,540.54|
|Total Annual Pension Input||£6,000.00||£7,063.45|
- Your net disposable income (after tax, NIC and your pension payment) remains the same.
- Your Employer does not lose out, as your cost to them also remains the same.
- However – instead of £6,000 being invested each year into your pension, you are now able to invest £7,063.45!
Many employers, especially SMEs, are open to allowing some or al of their employees to make their pension contributions in this way. It is a great employee benefit that has no explicit cost to the firm. There is a little admin to set up the regular payment, but once running, an employer is able to effectively improve an employee’s package without having to increase operational costs.
Salary sacrifice is therefore a genuine ‘win win’ situation for both you and your employer.