What is salary sacrifice?
Salary sacrifice is an agreement between an employee and their employer. The employee agrees to exchange part or their contractual gross salary in return for the employer making a pension contribution.
Salary sacrifice is an effective way of increasing the employees pension contributions. The amount sacrifice is taken from the employees gross salary so no tax or National Insurance Contributions (NICs) are due on this amount. The sacrificed amount goes straight into their pension arrangement such as a personal pension, stakeholder, sipp or occupational scheme as an employer contribution.
As the employees salary is effectively reduced, their employer also saves on their NIC bill. The saving can then be reinvested back into the employees pension plan.
Why sacrifice your salary?
It is evident that a salary sacrifice arrangement set up in this way can provide a tax efficient way of saving for the future.
The benefits to the employee are:
- Their take home pay stays the same.
- They receive higher pension contributions.
- They are receiving a valuable benefit from their employer.
- They have peace of mind that they are helping to protect their lifestyle in retirement.
- They can also sacrifice any contractual and discretionary bonuses they might receive.
How does salary sacrifice work?
Salary sacrifice can be set up in a number of ways. Many employers decide to set up the arrangements so that any saving on national insurance contributions the employer makes is also reinvested into the employees pension arrangement increasing the amount of contributions made.
Normally to save for retirement employees have to give up more of their current income. By using salary sacrifice in this way employees obtain an increase in their spending power in retirement without reducing their current spending power. So it is not really a sacrifice - more of an investment for the future.
If you are considering investing into a pension it is important to remember that the value of your pension investment and the income generated could fall as well as rise and that there is no guarantee you will get back more than you invested.