Many company owners want to get more out of their business without suffering income or corporation tax. A great way to move money out of a business without being taxed is through salary sacrifice. It is also an option for key individuals within a company that are high earners and would prefer not to be, but still want to be appropriately rewarded for the work that they do.
Salary Sacrifice is where an employee sacrifices part of their salary and/or bonus in return for their employer paying the amount sacrificed as an employer pension contribution on their behalf.
Such an approach can be far more attractive than the employee making a direct pension contribution on his/her own behalf, particularly where their employer is prepared to increase the employer pension contribution by part or all of their NIC saving. The following example, based on a 40% taxpayer, will help to demonstrate this.
The phasing out of the personal allowance at income between £100,000 and £123,000 has created a new opportunity for salary sacrifice planning.
In the example, a salary sacrifice of £13,793 gives the same net income as if the pension contribution had been paid personally. By also passing on the employer NIC saving of £1,903, the total pension contribution will be £15,696.
*Personal Allowance is £11,500
** NIC band £8,164 – £45,000 at 12%, 2% on excess.
These figures are based on the NIC and tax rates for the 2017/18 tax year.
Note: For Scottish taxpayers, the tax position may be different from the rest of the UK.
Timing of salary sacrifice
For a salary sacrifice to be effective it must be made before the remuneration being given up is treated as received for employment income tax purposes.
For an employee this will normally be the earlier of:
- the date the payment is made, and
- the time the individual becomes entitled to the payment.
Where a company director is concerned the following additional dates also need to be considered:
- the date when remuneration is credited in the company´s accounts or records
- where the remuneration is determined during the course of a company´s accounting year (or other period in respect of which the remuneration is paid) it is deemed to be paid at the end of that year or period
- where the amount of remuneration is determined after the end of the period to which they relate, the date the amount is determined.
HMRC’s Employment Income Manual sets out the criteria for a successful salary sacrifice from page EIM42700 onwards.
Tapered Annual Allowance
High earners need to be aware that from 6 April 2016 their annual allowance for pension contributions may fall from £40,000 to as little as £10,000 per annum. Anyone with total income of £150,000 or more could be affected.
There are anti-avoidance measures for anyone entering into an arrangement on or after 9 July 2015 to avoid or reduce the impact of the tapered annual allowance.
Where any employee is assessing a salary sacrifice it is important to consider the impact the salary sacrifice may have on other benefits. For example, if the individual is a member of an occupational pension scheme or a group life scheme, the reduced salary may result in a reduction of his benefits, unless the employer is prepared to continue to base those benefits on his pre sacrifice salary.
Similarly a reduced salary could potentially reduce the loan available to an individual seeking a mortgage.
For lower paid employees the impact of a reduced salary on state benefits and the impact of the national minimum/living wage should also be assessed.
Key point summary
The attractions of salary sacrifice when making pension contributions should not be ignored. However, it is important to consider the impact salary sacrifice may have on other benefits and the implications on entering into an arrangement to avoid the tapered annual allowance.
Next month we will look at the changes to income tax rules for high earners. If there are any topics that you want to have a deeper breadth of knowledge about do let us know.