Salary Sacrifice Guidance

What is salary sacrifice?
Salary sacrifice is simply an arrangement between you and your employee, where your employee agrees to a reduction in their cash remuneration (salary) in lieu of a pension payment being made to their pension scheme.

Why would an employee choose to give up remuneration in this way?
Salary sacrifice can alter the employee’s remuneration package to a more tax efficient structure, at no additional cost to either you or the employee. More importantly, salary sacrifice can generate higher pension contributions than if the employee opts to make the contributions themselves (either from their bank account or deducted from their net pay). The reason for this is that you may decide to pass on some/all of your corresponding National Insurance (NI) saving which will increase the amount paid to the employee’s pension scheme.

St James’s Place Wealth Management advises that you are not contractually bound to pass on any of your NI saving; it is a matter of agreeing the terms of any salary sacrifice arrangement with your employees.

What is the process for salary sacrifice?
There needs to be a formal agreement in place (normally in writing) between you and the employee, confirming the reduction in remuneration in exchange for a contribution of at least the same amount (or more when the NI saving is taken into account) being made to a pension scheme. As long as the employee enters into such a formal agreement, the terms and conditions of employment are varied and no NI or Income Tax liability arises.

It is important that the agreement is structured correctly, otherwise the salary sacrifice might fail. For instance, if the employee has the right to give up the non-cash benefit at any time and revert to the higher salary, the benefit may be deemed to be earnings and incur Income Tax and NI accordingly.

There is no requirement for you to inform HMRC that a salary sacrifice scheme has been set up, although you may wish to do so for reassurance.

Reference or notional salary
In the past it was not possible to base non-pension benefits on the pre-sacrifice salary, but HMRC have confirmed that the pre-sacrifice salary figure may continue to be referred to as a summary of the value of the remuneration package as a whole. This reference or notional salary may continue to be used for the following purposes without invalidating the salary sacrifice:
• To determine other benefits (eg life cover) and salary increases
• To calculate overtime rates
• To work out holiday or sick pay
• To justify earnings information to a mortgage lender.

Possible drawbacks of salary sacrifice
When entering a salary sacrifice arrangement, employees need to consider the effect, or potential effect, that a reduction in their pay may have.

These factors include:
• A sacrifice must not cause an employee’s rate of pay to fall below the minimum wage figure of £6.19 per hour (for the 2012/13 tax year) for an individual aged 21 or older under current regulations.
• There is no obligation for you to pass on any of your NI saving.
• There is no obligation for you to use “reference/notional salaries” to calculate benefits.
• Employees need to be aware that salary sacrifice could affect their entitlement to benefits such as :
– Earnings based State benefits such as Employment Support Allowance and State pensions
– Work related payments/earnings related benefits, such as Statutory Maternity Pay and Statutory Sick Pay

For those employees who are currently paying a pension contribution from their own bank account or from their net pay, salary sacrifice is an effective way for employees to increase the amount paid into pensions.