Q I run a small business and am about to take on my first full-time employee. At interview I asked him about his benefits package at his current workplace, and he said that he made a 5 per cent pension contribution by way of salary sacrifice while his employer made a contribution equal to 6 per cent of his salary to this plan. I am happy with the level of contributions, but what does salary sacrifice mean?
BM Dalgety Bay
A The concept of a salary sacrifice is simple. The employee formally agrees to reduce his salary and in return the employer agrees to provide an additional benefit – in this case through increasing the employer contribution to the pension plan. Overall, this is tax neutral and HMRC will happily accept properly implemented salary sacrifice arrangements as they are legally binding on the employer and employee. There are National Insurance savings arising from the implementation of the salary sacrifice and these can be used to enhance the pension contributions to be made.
Suppose someone earns £30,000 a year. Prior to salary sacrifice they would personally be contributing £1,200 out of post-tax income (£1,500 before the deduction of basic rate tax) while the employer would be paying £1,800. The pension plan would be receiving total contributions of £3,300 a year. If a salary sacrifice agreement was implemented, the employee’s salary would be reduced by £1,500, while the employer contribution would be increased to £3,300. This is tax neutral for you both. At current national insurance rates there would be a reduction in the employee’s national insurance of £180 (12 per cent) and in employer’s national insurance of £207 (13.8 per cent) as a result of reducing the employee’s salary by £1,500. Either or both parties might well agree to use part or all of their NI savings towards increasing the pension contribution, potentially increasing the total employer contribution to £3,687 while leaving you both in the same position as if no sacrifice had been made.
A similar arrangement could also be used for the provision of childcare vouchers. When salary sacrifice is implemented it is usually done by operating a dual system of the actual salary and a “reference” salary. The reference salary is usually the full salary, as if no salary sacrifice scheme is in place. Where such a reference salary is operated it is usually this salary which is used to calculate potential pay rises, pay for overtime and also death in service benefits.
Although not relevant to the example above, salary sacrifice arrangements cannot take salary below the minimum wage and will impact on the amount of statutory benefits an individual can receive. That’s because statutory benefits are calculated by reference to the actual cash salary and not the reference salary. Benefits that can be affected include maternity pay, sick pay and less common examples such as statutory paternity and adoption pay.
• Richard Brunton is a tax manager at HBJ Gateley LLP.
If you have a question you need answered, write to Jeff Salway, The Scotsman, 108 Holyrood Road, Edinburgh EH8 8AS or email: email@example.com. The above is for general purposes only and is not tailored for individual use. It does not constitute legal, financial or investment advice on any particular matter and must not be treated as a substitute for specific advice. No action should be taken in reliance of the information given. The Scotsman Publications Ltd, Cornerstone Asset Management LLP and HBJ Gateley accept no liability on the basis of this article.
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