Cash Clinic: Read the small print before agreeing to salary sacrifice plan

QUESTION: I have agreed to go into a salary sacrifice arrangement with my employer later this year but I have heard there are going to be changes to the way the scheme is treated for VAT purposes. How will this affect my salary? Is salary sacrifice worth sticking with? GM Dunbar

Answer from Brian Lovie

SALARY sacrifice schemes are an excellent way in which both you and your employer can benefit from your pay being reduced. The way it has worked is that both employer and employee can save on national insurance contributions (NICs).

An example of this would be if you currently pay 4 per cent of your income into your company pension scheme and this is matched by your employer, giving a total contribution into your pension scheme of 8 per cent.

If you enter into a salary sacrifice, you will no longer make a pension payment and will accept a 4 per cent pay cut, but your employer would pay the full 8 per cent into your pension scheme.

Since your pay will be reduced by 4 per cent, you will save employee NIC as this will only be charged on your new, lower, salary.

The amount you save will depend on your whether or not your original salary was above the NIC upper earnings limit (£42,485 for 2011-12) but your net take-home pay should not be reduced just because of the arrangement.

However, there was a European Court case in 2010 in which it was decided that vouchers given in exchange for salary sacrifice will be considered for VAT purposes from 1 January, 2012. A recent HM Revenue & Customs update has confirmed that, where any benefit is liable to VAT (such as the cycle to work scheme) then output tax will be due on the amount of the salary sacrificed.

Also, according to the business brief, if the benefit is of a higher value than that of the salary sacrificed then output tax will be due on the higher value.

Obviously in light of this employers will have to make a decision as to whether or not they will bear this extra cost or review their terms and conditions of new agreements and possibly even existing agreements.

This may mean that many existing salary sacrifice schemes are not as attractive as they once were and many employees may wish to review whether to continue with such schemes.

• Brian Lovie is director of employment taxes with accountants and business advisers PKF.

This 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 accepts no liability on the basis of this article.