One of the key benefits of saving in a pension is that you typically benefit from employer contributions and tax relief on top of your own payments.
Taking advantage of these perks allows you to build your savings faster and could mean you achieve a better quality of life in retirement.
What’s more, your pension could be even more beneficial if your employer allows you to pay pension contributions through a “salary sacrifice” scheme.
By contributing to your pension in this way, you could potentially reduce your Income Tax and National Insurance contributions (NICs).
If you were then to pay the saving into your pension, you could maximise the size of your pot at retirement. Alternatively, you might decide to keep the additional funds and increase your monthly take-home pay.
Unfortunately, there are rumours the government could change the way salary sacrifice works, potentially removing some of the benefits.
Read on to learn how salary sacrifice works and whether potential changes could affect your financial plan.
Salary sacrifice allows you to exchange a portion of your earnings for a certain benefit
If your employer offers a salary sacrifice scheme, you can give up (or sacrifice) a portion of your annual earnings in exchange for a benefit of some kind.
This might include:
- A cycle to work scheme
- A company car
- Gym memberships
- Private healthcare
- Pension contributions.
If you were to use salary sacrifice to pay pension contributions, your earnings would fall by a certain amount and your employer would pay the sum directly into your pension.
For instance, if you earned £50,000 and paid 8% pension contributions – 5% from you and 3% from your employer – your total contribution would be £4,000 a year.
If you were to pay the same pension contributions through salary sacrifice, your gross earnings would fall by 3% – your portion of the contribution –to £48,500.
Your employer would then pay the full £4,000 directly into your pension. This consists of the 3% you sacrificed from your salary, as well as their 5% contribution.
As such, the amount you pay into your pension remains the same but this simple change could reduce the Income Tax and NICs you pay.
Paying pension contributions through salary sacrifice could reduce your tax liability
To understand the benefits of salary sacrifice, it’s important to consider the way that your Income Tax and NICs are deducted.
Normally, your employer calculates your Income Tax and NICs based on your salary and deducts this amount from your earnings. They then take your pension contributions, and you receive whatever is left over.
However, if you opt for salary sacrifice, your annual earnings technically fall and your Income Tax and NICs are calculated based on this lower amount. Your employer pays the pension contributions directly and they’re considered a benefit, so they never form part of your taxable income.
All this means you could pay less Income Tax and NICs.
You might decide to keep this extra wealth, so your take-home pay increases. Alternatively, you could pay the saving into your pension. This means you can boost your retirement savings without affecting your monthly income.
Additionally, your employer may pay less NICs, and they might be willing to contribute this saving to your pension.
HMRC conducted research into salary sacrifice and proposed potential changes
As the government continues searching for ways to raise additional revenue, it appears they could be considering changes to salary sacrifice.
According to Pensions Age, HMRC conducted research by interviewing 51 business owners about their feelings towards salary sacrifice and how they would react if the rules were changed.
The three hypothetical reforms suggested were:
- Removing the NI exemption for employers and employees.
- Removing the NI exemption for employers and employees, and the Income Tax exemption for employees.
- Removing the NI exemption for employers and employees, but only on salary sacrificed above a £2,000 a year threshold.
It’s important to note that this research was commissioned under the previous government. Despite this, the publication of the findings suggests that the current government could be considering some changes to salary sacrifice.
Figures from the Independent show the potential cost if changes to salary sacrifice meant that pension contributions for somebody earning £35,000 were no longer exempt from Income Tax and NICs.
Employees would be up to £560 a year worse off, and costs could increase by £241 for employers.
While there are no guarantees, potential changes in the future could mean you’re not able to benefit from salary sacrifice as much as you currently can.
As such, if you’re not already part of a salary sacrifice scheme, you may want to speak to your employer and see if they offer this as an option. That way, you can reap the benefits and build additional wealth in your pensions before any potential changes take effect.
Get in touch
We can help you explore the most tax-efficient ways to build your retirement savings.
Please give us a call on 01276 855717 or email info@braywealth.com today.
Please note
This article is for general information only and does not constitute advice. The information is aimed at retail clients only.
All information is correct at the time of writing and is subject to change in the future.
HM Revenue and Customs’ practice and the law relating to taxation are complex and subject to individual circumstances and changes which cannot be foreseen.
A pension is a long-term investment not normally accessible until 55 (57 from April 2028). The fund value may fluctuate and can go down, which would have an impact on the level of pension benefits available. Past performance is not a reliable indicator of future performance.
The tax implications of pension withdrawals will be based on your individual circumstances. Thresholds, percentage rates, and tax legislation may change in subsequent Finance Acts.
Approved by the Openwork Partnership on 01/07/2025
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