Salary sacrifice – the basics

What is salary sacrifice?

It's a change in the employment contract terms between an employer, and their employee(s), where the employee agrees to exchange part of their salary, bonus or even redundancy package to provide a non-cash benefit such as an increased employer pension contribution. It is sometimes also referred to as salary exchange.

In this article we concentrate solely on salary sacrifice in relation to pension contributions.

It can be used with any type of UK registered pension - 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 pension scheme after the sacrifice is made.

What is the benefit of salary sacrifice?

In basic terms, because the employee is being paid less salary or bonus:

• the employer pays less National Insurance contributions for that employee
• the employee pays less income tax and National Insurance contribution

The savings made on tax and NI by the employee can be used to either increase the employer contribution or to increase the employee’s take home pay. Any National Insurance saving passed on by the employer can only be used to increase the employer pension contribution.

What National Insurance contributions do employers and employees pay?

Employers pay Class 1A and 1B National Insurance contributions on earnings over £5,000 a year at a rate of 15% There are some exceptions to this, for example, for employees under age 21 or apprentices under age 25, employer National Insurance is not paid until their salary is over the upper earnings limit (£50,270 per annum).

Employees pay the following (class 1) National Insurance contributions 

Again, there are exemptions to these rates, for example, someone over state pension age doesn’t pay any employee National Insurance contributions.

You can find out more information on the National Insurance classes at National Insurance: rates and categories.

Do the savings in tax and NI always need to increase the pension contributions?

No, the employee’s tax and National Insurance savings can be used to either increase take home pay or to increase the pension contribution (or a mixture of both).

Any National Insurance saving passed on by the employer can be used to increase the pension contribution.

Are they limits to what can be sacrificed?

Yes, an employee cannot sacrifice salary so that their remaining salary is below the national minimum wage (NML) or national living wage (NLW).

HMRC - EIM42769 - Salary sacrifice: conditions for successful salary sacrifice: effectiveness of contractual arrangement

It is the law that you can’t be paid less than the minimum wage although they are some exceptions to this – one exception being directors. The NMW/NLW does not apply to a director if they are an office holder, this is because they are not treated as a worker. If that is the case, they could if they want, sacrifice their whole salary.

National minimum wage: who gets the minimum wage

HMRC - NMWM05140 - Entitlement to National Minimum Wage: directors and office holders

Can a salary sacrifice agreement end at any time?

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

What happens if the employee starts parental leave/long term sick?

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 agreement will have to continue.

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. Contributions will generally need to continue until paid parental leave ends.

Where an employee is on statutory sick pay, the employer’s contributions are based on the employee’s actual earnings. It should be noted that the employee’s earnings can’t be reduced below statutory sick pay.

How do I check if the minimum contribution levels have been met when salary sacrifice is being used for an auto enrolment scheme?

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.

How does bonus sacrifice work?

A contractual bonus can be sacrificed as long as the sacrifice is made before the bonus is treated as being received for employment income purposes.

If the bonus is not a contractual bonus, there is not an issue as it doesn’t fall under bonus sacrifice. The employer and employee can simply decide that some or all of the bonus can simply be paid as an employer contribution as long as it is done before the bonus is paid.

What changes are proposed for salary sacrifice from the 2029/30 tax year?

In the Budget announcement on 26 November 2025, it was confirmed that the amount of pension contributions that can be made through salary sacrifice without incurring National Insurance Contributions (NICs) will be capped at £2,000 per tax year. Importantly, any income tax savings will remain unaffected.

Legislation has been to implement this change. It grants the Treasury the authority to impose both primary and secondary Class 1 NICs on salary or bonuses exchanged for employer pension contributions that exceed a set annual limit, from 2029/30. Initially, this limit will be set at £2,000 per year.

Here is an example of how this change may affect an employee from 2029/30 - we’ve used current Tax and NI rates and bands - the actual NI and tax rates and bands may, obviously, be different by 2029/30.

An employee who lives in England, earning £60k (before sacrifice) in 2029/30 with a 5% contribution paid by salary sacrifice (£3,000) would only get NI savings on £2,000 of their contribution. They would still save on income tax on the full amount though.

After the change, the £1,000 of the £3,000 contribution would be subject to NI. None of the £3,000 would be subject to income tax.

The NI paid by the employee of the £1,000 would be £20 (£1,000 x 2%) – the NI paid by the employer would be £150 (£1,000 x 15%)

They are still saving 2% employee NI and 15% employer NI on the £2,000 though. So, still saving £340 in NI in total, £40 for the employee and the remainder for the employer. Note that the employer can pass on some of their saving on to their employee.

If the contribution was not made by salary sacrifice but instead by relief at source, then the situation would be as follows.

The £3k would be in their pay and subject to tax and NI. So, subject to £1,200 tax and £60 NI. When £2,400 (£3,000 gross) paid into their pension, the individual would get basic rate tax relief of £600 which would take it back to £3,000 and would have to claim the extra £600 tax relief through their self-assessment (or by contacting HMRC). There wouldn’t be any NI saving here.

So, the advantages of using salary sacrifice are still:

• a saving in employee’s NI (even if this will be restricted for some employees)
• employers’ may pass on all or some of their NI saving to the individual
• no need to claim tax relief higher than basic – all tax savings are instant.

How can salary sacrifice save on National Insurance contribution costs?

Employer case study

Let’s take a look at an employer with an average pay bill of £3,000,000 a year. We’ve based our example on 100 employees with an average salary of £30,000 assuming the National Insurance contribution figures above apply for a whole tax year.

Their current pension scheme is set up using relief at source and their employees are paying £150,000 (£3,000,000 x 5%) in pension contributions and employees are paying a 5% contribution.

By setting up their pension using salary sacrifice, the employer could save £22,500 (£150,000 x 15%) a year on their National Insurance contributions.

Employee case study

Let’s see how this works for an employee. We’ve based this example on an employee who lives in England, earns £30,000 a year, has a personal allowance of £12,570, is paying a 5% pension contribution and is over age 21.

Monthly take home pay stays the same

¹This is in addition to the 5% pension contribution the employer is already paying.

²Before salary sacrifice the employee was paying a pension contribution of £100 net a month through relief at source. When this is paid into the pension plan it is grossed up to £125.

³Because they are using salary sacrifice, there is a reduction in take home pay which is calculated by grossing up the net pension amount by 20% income tax as they are basic rate taxpayer, and 8% National Insurance ((100 - (20 + 8)) /100 = 0.72). These figures would be different for higher and additional rate taxpayers. So, in our example above, gross pay is reduced by £138.89 (£100/0.72), and the employer will make an additional contribution equivalent to this amount.

⁴If the employer passes on their full National Insurance contribution saving then the additional employer contribution is increased by 15% and becomes £159.72 (£138.89 x 1.15).

Monthly take home pay increases

¹This is in addition to the 5% pension contribution the employer is already paying.

²Before salary sacrifice the employee was paying a pension contribution of £100 a month through relief at source. When this is paid into the pension plan it is grossed up to £125.

³Using salary sacrifice the employee sacrifices £125 a month reducing their salary from £2,500 to £2,375 a month.

⁴By contributing to their pension through salary sacrifice their take home pay will increase by £10.04 (£2,003.34 - £1,993.30).

⁵As the employee’s pay has reduced by £125, the employer will pay £125 x 15% = £18.75 less in employer National Insurance contributions. If this is paid as an additional contribution into the plan the contributions will rise to £125 + £18.75 = £143.75.