Salary sacrifice - frequently asked questions

In basic terms:

• An employee agrees to give up some salary or bonus.
• The amount given up is used by the employer to provide certain non-cash benefits to the employee. Because the employee is being paid less salary or bonus:
  • the employer makes National Insurance contribution savings
  • the employee pays less income tax and National Insurance contribution
• In April 2017 the income tax and National Insurance benefits of salary sacrifice schemes will be removed for some arrangements. This change excluded arrangements in respect of pensions as well as advice, childcare, Cycle to Work and ultra-low emission cars. Arrangements in place before April 2017 were protected until April 2018 and arrangements for cars, accommodation and school fees were protected until April 2021.

More information on the changes can be found in Salary sacrifice - GOV.UK

It can be used with any type of UK registered pension plan - such as individual or group personal pension/stakeholder or occupational money purchase/final salary schemes. The main point to remember is that there must be an employer willing and able to make contributions to the scheme after the sacrifice is made.

As there's no employer to make a pension contribution on their behalf, the self-employed cannot set up a salary sacrifice arrangement.

Yes. Depending on how the National Insurance contribution and income tax savings generated are used, there are several ways available. Our calculator can demonstrate the following four examples for someone who was paying a personal contribution but opts to use salary sacrifice:

1. None of the income tax and National Insurance contribution savings generated are reinvested into the pension plan:

• The employer does not reinvest their National Insurance contribution saving so their costs reduce.
• The employee's take-home pay increases as they pay no income tax or National Insurance contribution on the amount sacrificed.
• The pension contributions stays the same.

2. The employer decides to keep the National Insurance contribution savings rather than reinvesting them into the pension plan. The employees reinvest their income tax and National Insurance contribution savings into the pension plan:

• The employer does not reinvest their National Insurance contribution saving so their costs reduce.
• The employee can sacrifice slightly more salary than the normal pension contribution and keep their take-home pay at the same level.
• As more has been sacrificed, this increases the pension contribution.

3. The employer reinvests their National Insurance contribution savings into the pension plan. The employees will keep their savings rather than reinvest them into the pension plan:

• The employer reinvests their National Insurance contribution saving so their costs stay the same.
• The employee's take-home pay increases as they pay no income tax or National Insurance contribution on the amount sacrificed.
• The employer's National Insurance contribution savings increases the pension contribution.

4. The employer will reinvest their National Insurance contribution savings and the employees will reinvest their National Insurance contribution and income tax savings into the pension plan:

• The employer reinvests their National Insurance contribution saving so their costs stay the same.
• The employee can sacrifice slightly more salary than the normal pension contribution and keep their take-home pay at the same level.
• The increased employee contribution and the National Insurance contribution savings increases the pension contribution.

No, the salary sacrifice calculation and income tax and National Insurance contribution saving are not affected.

However, if the employee is a higher or additional rate tax-payer and they were contributing to a personal or stakeholder pension they would pay their own contributions net of basic rate tax. They would then claim any higher and additional tax relief through their self-assessment tax return. As the contribution is now being paid by salary sacrifice (that is, by the employer) no income tax is deducted as the salary has been given up. So, they effectively get their tax relief immediately and do not have to claim it through their tax return.

If they are members of an occupational pension scheme, personal contributions are paid before income tax is deducted. There is no need to claim the higher and additional rate tax relief through their tax return. This is very similar to salary sacrifice but salary sacrifice also saves on National Insurance contributions.

The National Insurance contribution savings the employer makes can be used in many ways. For example they can be used to provide other employee benefits, increase pension contributions, shore up deficits in a defined benefit scheme, or the employer may simply keep the savings. Remember however that the actual amount of salary the employee sacrifices must be used to provide a non-cash benefit to the employee, such as childcare vouchers, or contributions to a pension plan.

Yes, salary sacrifice can be introduced into existing plan as well as new plans.

No, salary sacrifice constitutes a change to an employee's contract of employment, it's not within the remit of HMRC and they do not have to be advised.

However, HMRC is concerned that income tax and National Insurance contributions are deducted correctly. Employers have the option to contact HMRC if they want to make sure they're deducting income tax and National Insurance contributions properly after the salary sacrifice arrangement is in place. Details of how they can do this can be found in HMRCs: Salary Sacrifice and the effects on PAYE.

Yes it can normally be altered, for example, if someone opts out of an automatic enrolment scheme with salary sacrifice. For any other circumstances it depends on how the agreement has been set up.

Yes, salary sacrifice can affect certain employer, state and other benefits, some of which are listed below - note that this list is not exhaustive. The impact on benefits can however be mitigated in certain circumstances.

More information on how salary sacrifice can affect benefits can be found in our guide to salary exchange and guide for employees.

Salary, overtime, bonuses and other employer related benefits

Although salary sacrifice is a reduction in gross salary, the agreement can be constructed so that salary increases, bonuses and overtime for example are based on the salary before the sacrifice. This is commonly known as 'notional' or 'shadow' pay.

Mortgages and other borrowing

Mortgage and other lenders may base the amount they're willing to lend on either a multiple of salary or affordability. Employers can provide lenders with details of an employee's pre-sacrificed salary however this may not be accepted. Employees considering borrowing should therefore discuss this with their lender.

State Pension

Entitlement to both the basic and new State Pension is based on the number of 'qualifying years' in an individual's working life rather than the amount of National Insurance contributions. For a year to count as a qualifying year earnings need to be above the Lower Earnings Limit, so care should be taken not to salary sacrifice below that level.

The level of entitlement to additional State Pension S2P was based on the level of earnings so using salary sacrifice would have affected the level of S2P benefits.

Statutory maternity/Adoption pay

Statutory maternity/Adoption Pay are based on gross earnings subject to Class 1 National Insurance contributions and income tax. As these earnings will reduce as a result of salary sacrifice, there'll be an impact on Statutory Maternity/Adoption Pay and they may also reduce.

If the employer operates an occupational Maternity or Adoption Pay policy, they may increase payments up to or above the pre sacrifice statutory amount to ensure the individual does not lose out.

Statutory Paternity Pay

If earnings are reduced to less than Lower Earnings Limit, there's no entitlement to Statutory Paternity Pay.

Statutory Sick Pay

Statutory Sick Pay is a work-related payment which employees are entitled to by law and is not connected to their contract of employment.

If earnings fall below Lower Earnings Limit then there's no right to receive Statutory Sick Pay. If this happens employees may still be entitled to Income Support or Employment and support allowance, if they meet the qualifying conditions.

If the employer operates an occupational sick pay scheme, sick pay could still be paid through that scheme even if earnings are less than Lower Earnings Limit to ensure employees are not worse off.

Student loans

Repayments of student loans are triggered where earnings are above a certain level, which will depend on when the loan was taken out. If a salary sacrifice reduces earnings to below this threshold repayments may reduce or stop. This may mean that it'll take longer to repay any student loan.

Tax Credits

The Working Tax Credit and Child Tax Credit were introduced in April 2003 to help families on middle incomes. The amount of Working Tax Credit depends on a number of factors including the number of hours worked, how many children the employee has and the amount of eligible childcare costs.

Working Tax Credit is calculated on actual taxable earnings, so if these are reduced by a salary sacrifice, an individual's Working Tax Credit entitlement may increase.

Until June 2012, salary sacrifice for employer pension contributions had to be for a set period but since then they can be ended at any time (if the agreement allows).

In general, no, you cannot sacrifice salary so that your remaining salary is below the national minimum wage (NML) or national living wage (NLW).

The exception to this is individuals who are directors. The NMW/NLW does not apply to directors so they could if they chose sacrifice their whole salary.

No, HMRC will not give any guidance on the salary sacrifice agreement wording. 

The agreement is part of the employment contract, so the best people to ask for assistance would be the lawyer or employment law specialists that drafted the contract of employment the employer uses with their staff.

Pension providers may provide example templates but as employment contracts are usually company specific it make sense to have a lawyer or employment law specialists check the wording.

Unless the agreement is written in such a way that it stops at certain events such as parental leave or when long term sick leave starts the employer will have to continue making the payments while the individual is being paid by the employer.

Remember that under the rules for parental leave the employer is required to maintain their pension contributions at the level they were before the individual started parental leave. They should continue until paid parental leave ends.

As far as the auto enrolment rules are concerned, you must use the post sacrifice salary to calculate whether or not minimum contributions have been met.

This is best covered by an example:

Pre sacrifice salary is £50,000. Contributions are 3% employer and 5% employee (including tax relief). The employee wants to use salary sacrifice to make their £2,500 contribution. Their post sacrifice salary is therefore £47,500, meaning that the actual employer contribution of £4,000 (£1,500 + £2,500) represents 8.42% of the £47,500 salary, not 8%.

It therefore needs a bit of maths to calculate in advance what level of sacrifice would result in the minimum contribution being met when measured against the post sacrifice salary. Most providers require the minimum to be based on the pre-sacrifice salary, accepting that this results in the contribution then being more than the minimum required when measured against the post sacrifice salary.

In the above example, the employer is making the minimum contribution and the employee is using salary sacrifice to make the employee contribution. It's unlikely that providers and/or the Pensions Regulator will allow the total required contribution to be funded by employee salary sacrifice. The employee must always have the option to go for a conventional employer/employee contribution basis and there must be no coercion into using salary sacrifice.