Know all about Salary Sacrifice Pension

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A salary sacrifice pension is a common UK workplace pension plan. In this, you and your employer agree that you will give up some of your salary for non-cash benefits. Usually, these benefits are extra contributions to your pension from your employer.

How Does a Salary Sacrifice Pension Work?

When you’re enrolled in an occupational pension plan, both you and your employer make monthly contributions. In the UK, employers are obligated to contribute at least 3%, but they have the option to contribute more. A method to augment these contributions is through a salary sacrifice arrangement.

Under a salary sacrifice arrangement, your wage is correspondingly decreased, leading to an increase in your employer’s contributions. However, these payments are considered as employer contributions, not employee contributions, which results in a decrease in your gross (before tax) wage. This setup offers benefits to both you and your employer.

As your gross earnings are now reduced, you’ll be subject to lower National Insurance (NI) and income tax payments. Your employer also benefits from reduced National Insurance costs. An additional advantage is that your net pay may remain unchanged compared to if you were making pension contributions by yourself as contributions for an employee, as you are always free to decide the amount of salary to sacrifice.

An Example

Let us take Jane as an example to know how a salary sacrifice can enhance your pension. Jane earns an annual salary of £35,000 and contributes 5% to her pension, while the employer contributes to an additional 3%. This means Jane’s contribution is £1,750, and her employer’s is £1,050, making a total contribution of £2,800.

As a result, the total contribution increases to £3,392.94, which is £592.94 more than Jane’s pension you would get prior to the salary sacrifice. In this scenario, Jane’s annual net income remains the same at £26,040; however, her pension receives a larger monthly contribution.

Is there a limit to a salary sacrifice pension?

Yes, there are limits to how much you can sacrifice for a salary sacrifice pension in the UK:

A salary sacrifice arrangement should not lower an employee’s cash earnings under the National Minimum Wage (NMW) rate.

You can only contribute a total of £40,000 to all pension savings annually. However, the current rules allow you to pay 100% of your salary, or £3,600 a year, for your pension, which is higher, and get tax relief.

There is also a lifetime limit on the total amount you can hold within all your pension funds without paying extra tax when withdrawing money from them. This is known as the ‘lifetime allowance’.

Benefits of Salary Sacrifice Pension

A salary sacrifice pension has many benefits:

  • Lower Income Tax and National Insurance (NI) Contributions: Since you’re technically reducing your gross (pre-tax) salary, you will pay less income tax and National Insurance (NI) on your earnings.
  • Employer Savings: Your employer also saves on National Insurance, which they may choose to add to your pension contributions.
  • Increased Pension Contributions: The money you sacrifice is paid directly into your pension by your employer, which increases the total contribution to your pension.

Conclusion

A salary sacrifice pension scheme is a great way to boost your pension pot. It offers tax advantages and allows you to increase your pension contributions without reducing your take-home pay. However, it is important to understand the implications and consult with a financial adviser before making a decision.

Remember, the amount of salary you should sacrifice for your pension depends on your individual circumstances and financial goals. It is always a good idea to seek professional advice to make the most of your pension contributions.

Some FAQs

What is a salary sacrifice pension? 

A salary sacrifice pension is an arrangement between you and your employer, where you give up or ‘sacrifice’ a portion of your salary in exchange for other, non-cash benefits. The most popular salary type involves additional pension contributions by your employer.

How does a salary sacrifice pension work? 

In a salary sacrifice scheme, your salary is proportionately reduced, and the contributions from your employer increase. However, these payments are employer contributions, instead of the employee contributions.

Can I set up a salary sacrifice scheme at my work place? 

Yes, you can set up a salary sacrifice scheme at your place of work. However, your employer needs to agree to this change.

Can I do it if I am self-employed? 

Salary sacrifice schemes are typically for employees. If you are self-employed, you might want to consider other pension contribution options.

How does it affect maternity pay? 

Salary sacrifice may affect maternity pay and contributions during maternity leave. It is best to consult with your HR department or a financial adviser for specifics.

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