Salary sacrifice is where an employee agrees to give up part of the money they would earn in their pay packet in exchange for non-cash benefits from their employers. Examples of benefits on offer include pension contributions, childcare vouchers, EV car schemes, cycle to work, healthcare benefits and life insurance premiums amongst others.
The scheme works by reducing the amount of taxable cash income so that less income tax and national insurance contributions are due. The sacrificed amount is paid by the employer towards the agreed benefits instead of being paid to the employee as cash earnings. Read on to understand in more detail how this works and who can benefit.
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What Is Salary Sacrifice?
A salary sacrifice, or ‘salary exchange’ as it is sometimes referred to, is when an employee agrees to give up a portion of their salary, and in return, they receive non-cash benefits or perks. These salary sacrifice arrangements typically last 12 months and are a way to improve an employee’s benefits package by giving up a slice of their salary.
| Examples of salary sacrifice arrangements | |
| pension contributions | other childcare |
| electric car salary sacrifice | healthcare |
| workplace car parking | life insurance |
| cycle to work schemes | gym memberships |
| childcare vouchers | technology equipment (such as laptops and smartphones) |
| workplace nurseries |
Thinking of offering a salary sacrifice option to your employees?
While UK employers are not obligated to offer salary sacrifice schemes, it’s a strategic approach that benefits both employees and employers by reducing overall tax burdens. By sacrificing a portion of their salary, employees can lower their income tax and National Insurance contributions.
This presents various advantages which will be elaborated below, but as it lowers the amount of money in an employee’s pay packet at the end of the month, it may not be right for everyone. That said, in many cases such schemes lead to increased employee satisfaction and retention and are viewed as a valuable perk worth having.
What are the Pros Of Salary Sacrifice?
There are a number of advantages to salary sacrifice arrangements:
- First off, as discussed earlier, it’s a tax-saver. This means that individuals will reduce the amount of taxable income they earn, which in turn lowers their tax payments due. This approach is highlighted as a way to save money on taxes, providing a financial break and potentially leading to significant savings.
- For employers, there’s the benefits of lower national Insurance contributions which can be especially significant in relation to employer pension contributions.
- Another advantage of salary sacrifice is its potential to have a positive impact on work-life balance for employees. For example, being able to access premium healthcare options, enjoy enhanced paternity leave, or have access to an electric car or cycle, are all lifestyle benefits that can really help the overall wellbeing and work/life balance of staff.
- One of the best bonus points for salary sacrifice often lies in the benefits on offer. By employers purchasing healthcare insurance and other benefits in bulk from suppliers, they’re often accessing heavily reduced prices. This in turn means employees are enjoying premium services for a far more affordable price than they would face if buying alone.
What are the Cons of Salary Sacrifice?
As with any benefit, it won’t make financial sense for everyone so it’s important to consider the potential downsides as well as the pro points before making a decision on whether offering salary sacrifice schemes is right for your business and your employees.
Consider these potential cons of salary sacrifice:
- Take home pay is impacted. For those running a tight budget and having fluctuating expenses, they may need to have a cash buffer in the bank. If take-home pay suddenly goes down, it might cause a bit of a hiccup in an employees budget or their ability to settle bills if they haven’t planned for the drop in income.
- There can be difficulty when people change employers. When changing jobs, if employees have sacrificed salary for a benefit at one job, they may not be able to access this money until they retire. This could cause issues if they wanted to access the money sooner.
- If employees need to submit a tax return, it’s important that they keep track of benefits received to avoid errors or omissions on tax forms.
- Employees cannot be included in salary sacrifice schemes if the arrangement would take their salary below the National Minimum Wage. Employers need to monitor this on an ongoing basis as they could be subject to fines for breaching regulations.
Before making the call on salary sacrifice, it’s key to weigh the pros and cons. In some situations, opting to boost overall salary could be a more favoured choice for employees than sacrificing a portion of their salary. It’s all about finding the approach that maximises the benefits and aligns with the financial goals of your employees. While it is voluntary, staff can opt to participate or not, depending on what works best for them.
Setting Up Salary Sacrifices for Your Employees
As an employer, you create a salary sacrifice arrangement by modifying your employee’s contract. The employee must agree to these changes, specifying the amount they’ll sacrifice from their salary and the benefits they’ll get in return. It’s crucial to ensure that the employee’s cash earnings don’t fall below the National Minimum Wage (NMW) rates. After reaching an agreement, you can then implement the salary sacrifice arrangement using your payroll system.
Before you decide to offer salary sacrifice to your employees, it’s always a good idea to consult with experts who understand the ins and outs of the tax rules involved. Getting professional advice makes the whole process smoother. Despite some complexities, implementing salary sacrifice can still be a smart move for your business, offering benefits to both you and your employees. Expert guidance ensures you navigate any complex aspects, making it a practical and positive strategy for all involved.
Changing the Terms of a Salary Sacrifice as an Employer
At times, the terms of a salary sacrifice scheme may need reviewing and adjusting. Should an employee decide to either join or exit a salary sacrifice arrangement, it’s important the employer updates their contract accordingly for each change. The contract should clearly outline the employee’s cash and non-cash benefits at any given time
It becomes crucial to modify the terms of a salary sacrifice arrangement when a major life event impacts an employee’s financial situation. This could include events such as
- Marriage
- Divorce
- Partner experiencing redundancy or pregnancy
Salary sacrifice arrangements provide the flexibility for employees to opt in or out in response to significant lifestyle changes like the ones mentioned.
Usually, employees enjoy the flexibility of shifting between cash earnings and non-cash benefits based on their preferences. However, it’s crucial to be aware that the anticipated tax and National Insurance contribution advantages from a salary sacrifice arrangement might not always apply, but there are some exceptions to this rule.
For a more in-depth understanding, you can refer to Employment Income Manual 42755, which provides detailed insights into specific cases and exceptions.
Changing the Terms of a Salary Sacrifice as an Employee
If your employee benefits changes, perhaps through a new provider, or change in terms, or if you change roles within a company, this must be clearly communicated and documented within your contract.
If you need to cancel or add benefits to your salary sacrifice scheme, you should contact the person in your company who acts as the administrator for such things. This is usually someone in finance or HR.
You may need to provide evidence for some changes, such as change in address but a simple utility bill should be enough for that. Once changes have been made, you should receive a confirmation letter.
Remember, if you change your salary sacrifice options, it will have an impact on your take home pay, so factor this in when making your decision to change the terms of a salary sacrifice.
Working Out the Impact on Tax and NI Contributions as an Employer
Thankfully, most employers use a PAYE system which can easily handle the calculations for tax and NI contributions, even with salary sacrifice adjustments needed.
It’s important to get the cash portion paid through PAYE correct and as an employer, you need to pay and subtract the correct amount of tax and NI for the benefits provided from the salary sacrifice agreements.
Calculating a Non-Cash Benefit
When embarking on the implementation of a salary sacrifice arrangement which involves non-cash benefits, employers assume an important decision making role in determining the value associated with these benefits.
The process demands a thoughtful evaluation involving two key factors, and employers are tasked with choosing the higher value between them to ensure fairness and accuracy: include;
Total Sum of Sacrificed Salary: In assessing the value of non-cash benefits within a salary sacrifice arrangement, one method involves examining the total amount of salary the employee opts to forgo. This provides a clear indicator of the value associated with the benefit received in exchange.
Earnings Charge under Normal Benefit-in-Kind Rules: Alternatively, another approach is to calculate the earnings charge using standard Benefit-in-Kind rules. This method entails evaluating the benefit’s value based on established guidelines, ensuring a thorough understanding of the financial implications and compliance within the salary sacrifice arrangement framework.
When using the earnings change, you should be aware that vehicles with CO2 emissions of 75g/km or less will adjust the calculations. In these cases, employers need to use earnings charge by the normal benefit in kind rules without exception. This aids consistent and fair calculations for environmentally friendly vehicles.
NI Contributions & Tax Exemptions on Non-Cash Benefits
Exceptions to the valuation and reporting of benefits in kind do not extend to salary sacrifice schemes. However, there are specific benefits within a salary sacrifice arrangement that employers do not need to value or report to HMRC. These include
- Any deposits into Pension Schemes – contributions made into pension schemes through a salary sacrifice arrangement are exempt from valuation and reporting requirements.
- Pensions advice provided by the employer are also not obligated to value or report.
- Workplace nurseries
- Childcare vouchers and child care directly contracted and provided by the employer, which commenced on or before 4 October 2018, do not need to be valued or reported.
- Bicycles and cycling safety gear are provisions within a salary sacrifice arrangement are exceptions to valuation and reporting requirements.
In a nutshell, for salary sacrifice schemes, there are certain benefits that employers don’t have to calculate or report to HMRC. So, while exceptions for benefits in kind generally don’t apply to salary sacrifice, there’s a clear list of benefits that employers can handle without the extra paperwork.
How to Report a Non-Cash Benefit as an Employer
Reporting non-cash benefits such as company car, medical insurance, employer loans over £10k, accommodation and fuel allowances as an employer is generally done at the end of the tax year using a combination of end of year expenses and benefits form which is known as the P11D form.
From April 2026, HMRC is requesting that reporting and paying income tax and NIC on benefits in kind will be managed through payroll. For current years before the change, employers can use P11D software to streamline their reporting obligations.
HMRC Confirmation of the NI Contributions and Taxes
Once you have submitted your benefits issued to staff, HMRC will approve them or flag any errors/irregularities that need to be resolved. If you have any queries or are uncertain about the numbers you’re submitting, you should check in with the HMRC clearance team for help.
You will need to provide proof of the T&Cs regarding the benefits in discussion, for example a written contract, and payslips.
How can Salary Sacrifice Affect a Workplace Pension Scheme?
The employer decides if salary sacrifice affects contributions to a workplace pension scheme. Typically, they use an assumed pay grade for both employer and employee pension contributions to ensure fairness for employees in salary sacrifice. It’s wise for employers to confirm with their scheme provider to ensure compliance.
For example, an employer might agree to contribute more than the minimum required, covering part or all of the employee’s contribution. In return, the employee might receive a lower cash salary. It’s a balancing act, and it’s essential to check with the scheme provider to make sure everything aligns properly.
Final thoughts on salary sacrifice schemes
In summary, salary sacrifice allows employees to enjoy enhanced benefits that boost the appeal of their overall package from their employer. They can enjoy non-cash benefits like health insurance and child care vouchers by trading a portion of their salary. This scheme does reduce the employee’s salary amount that they actually take home, but it offers advantages in that it can reduce the amount of tax paid over time.
Employees should weigh up if salary sacrifice is right for them depending on their personal cash income levels to see if the tax benefits outweigh having cash in the bank. For employers, salary sacrifice is a popular way to attract and retain staff by boosting the type of package that can be offered to employees for their job role in a tax efficient way.
