Salary sacrifice – are you missing out on tax breaks?

Recent findings suggest that millions of taxpayers are missing out on tax savings as they’re unaware of their entitlement to ‘salary sacrifice schemes’.

What is it?

Salary sacrifice happens when an employee gives up the right to part of their salary or bonus due under their employment contract. A non-cash equivalent is taken instead and the act of doing so means that the employee’s contractual terms are changed.

Such schemes have been in place for a number of years, with take up higher in some sectors of the economy than others.

For a salary sacrifice scheme to be effective in HMRC’s eyes, the employer must be able to demonstrate that new contractual arrangements have been made, ultimately satisfying HMRC that:

  • The employee’s entitlement to cash has been reduced,
  • That a non-cash benefit has been provided by the employer and
  • That the employer is not simply meeting the employee’s own financial commitments

The reason for the popularity of salary sacrifice schemes is that the employee can opt to receive benefits which are tax and/or NIC exempt and there are associated savings too for the employer.

What can I receive under salary sacrifice?

One of the most popular salary sacrifice items has been childcare vouchers, where the employee elects to receive tax-free vouchers to go towards paying for qualifying childcare places. Tax savings can be around £900 per year as the vouchers are not subject to tax or NIC.  The employee’s gross salary is reduced by the vouchers received, leaving less salary subject to tax and NI.

However, the way taxpayers receive tax-free childcare is changing with a new system being brought in from 2015, providing up to £1,200 of childcare support per child.

Another popular salary sacrifice item is pensions, with taxpayers electing to receive less salary in exchange for tax-free deductions to a registered pension scheme. There is also the added bonus that generally the employer will make contributions to the pension, often matching the employee’s contribution.

Salary sacrifice is especially popular with taxpayers earning just above the £100,000 income threshold. Since April, individuals have had their personal allowance reduced by £1 for every £2 of income above £100,000. Many taxpayers have agreed to salary sacrifice schemes in which they pay enough into their pensions to get them below the £100,000 mark. This means not only are their pensions boosted, but that they continue to receive personal allowance in full.

Another group of taxpayers are those whose income sits above £50,000. Individuals with income in excess of this amount have had their Child Benefit cut since earlier this year. For those earning above £60,000, the Benefit is lost altogether. Using a salary sacrifice scheme could reduce relevant earnings to a level at which Child Benefit is preserved.

Many other items can be received as part of salary sacrifice schemes, for example:

  • Interest free loans to buy season tickets on trains
  • bikes under the ‘Cycle to Work’ scheme

What are the downsides to salary sacrifice?

Employees who enter into salary sacrifice schemes should be aware that this act will change their contractual terms of employment. It also means that their notional salary is reduced which will have consequences for salary-based bonuses and other benefits.

Those receiving maternity, paternity and sick pay may find that their payments are reduced or stopped if their earnings fall below the Lower Earnings Limit (LEL) of £102 per week. Salary sacrifice in these circumstances may carry the same advantages. Salary sacrifice cannot bring salaries below the minimum wage limit.

Our tax specialist in this area is Helen Sewell who can assist you with your queries. Call Helen on 01527 558539 or email Helen on [email protected]..