Salary Sacrifice

Salary Sacrifice is offered by some employers as a means for their employees to receive increased pension scheme contributions.

It is not an effective way of saving for everyone so, if your employer offers salary sacrifice, you should make sure you benefit before signing up.

How It Works

You sacrifice part of your salary.  The amount you sacrifice is paid to your pension plan directly by your employer, rather than being paid to you.

As a result of you having a lower salary, both you and your employer pay less National Insurance Contribution (NIC).  As part of the salary sacrifice deal, your employer pays all or part of their NIC saving to your pension plan along with the sacrificed amount.

For example, you earn £30,000 a year and decide you want to salary sacrifice £1,000.  Your new salary is £29,000, with the employer paying £1,000 to your pension plan.  You pay less NIC (and in some cases Income Tax) because your salary is lower.  Your employer also pays less NICs and pays a percentage of their saving to your pension scheme.

The percentage of NIC saving your employer pays is defined by them as part of their salary sacrifice offer.  It could be anything between 0% and 100%.

The Advantages

The main advantages are:

1. You pay less NIC (and in some cases Income Tax) because your income is lower; and
2. You may receive a boost to your retirement savings because your employer may add a percentage of their NIC saving to your pension contribution. 

The Disadvantages

Salary sacrifice results in you having a lower salary.  This could affect the following:

1. Life cover - your employer may provide you with life cover, which is usually calculated as a multiple of your salary.  As your salary is lower under salary sacrifice, so may your life cover.  Some employers may continue to provide life cover at the pre-salary sacrifice pay.
2. Refund of contributions - some occupational pension schemes offer a refund of employee contributions on leaving with less than two years service.  The contribution paid as part of the salary sacrifice arrangement is not an employee contribution so would not be refunded.
3. Mortgage borrowing - mortgage lenders usually calculate the maximum borrowing level as a multiple of salary.  As your salary is lower under salary sacrifice, your mortgage borrowing may be affected.
4. Statutory Maternity Pay - SMP is available if you earn above the Lower Earnings Limit (£5,564 in 2012/13) prior to going on maternity leave.  If salary sacrifice brings your salary below this level, your entitlement to SMP may be lost.
5. State Second Pension (S2P) - this additional part of the state pension is calculated with reference to your earnings.  Any reduction in your earnings between the Low Earnings Threshold (£14,700 in 2012/13) and the Upper Accrual Point (£40,040 in 2012/13) may affect this entitlement.
6. State Second Pension (S2P) - as with SMP (see 4 above), if salary sacrifice brings your salary below the LEL, your entitlement to S2P may be lost. 

Further Salary Sacrifice Guidance

HM Revenue and Customs publishes some information and guides on Salary Sacrifice. These guides go into more detail into the effects of such an arrangement on state entitlements such as maternity pay, minimum wage, tax credits and other benefits.  These guides can be found on their webpage here:

http://www.hmrc.gov.uk/specialist/salary_sacrifice.htm

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