Background to salary sacrifice

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With effect from 6th April 2017, the provision of benefits in kind by way of salary sacrifice arrangements was largely withdrawn. One of the few benefits to survive these changes was employer contributions into a registered pension scheme for the employee’s benefit and employer provided pensions.

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Salary sacrifice is a contractual agreement between you and your employer as a result of which you agree to waive part of your salary, either a fixed amount or a percentage of monthly income, in exchange for the employer pension contribution. This must be an ongoing arrangement and you will be asked to sign an agreement which will be effective for a minimum period of 12 months unless you experience a significant ‘lifestyle change’ such that the arrangement is no longer suitable. Examples of a significant ‘lifestyle change’ would include:

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• the redundancy of a partner, 

• the pregnancy of the employee or his or her partner, 

• the death of a partner, or 

• the employee's marriage or divorce.

 

Limits on pension contributions

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There is currently an annual limit on pension contributions of £40,000 in a given tax year. Unused allowances from the previous three tax years can be carried forward, however, the current year’s allowance will always be used first. A lifetime allowance of £1,073,100 also applies.

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The £40,000 annual allowance will be reduced if:

 

1. You have already accessed your pension benefits, in which case a limit of £4,000 will apply;

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or

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2. Your ‘threshold income’ is over £200,000 and your ‘adjusted income’ is over £240,000. In this scenario, your annual allowance will be reduced by £1 for every £2 by which your ‘adjusted income’ exceeds £200,000 down to minimum limit of £4,000 – this is known as the tapered annual allowance.

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If your ‘threshold income’ is £200,000 or less, you cannot be subject to the tapered annual allowance. Broadly speaking, ‘threshold income’ is defined as your net income for the year and will include taxable income such as the following elements, reduced by the amount of any taxable lump sum pension death benefits you receive during the tax year.

 

• salary, 

• bonus, 

• pension income (including state pension), 

• taxable element of redundancy payments, 

• taxable social security payments, 

• trading profits, 

• income from property (rental income), 

• dividend income, 

• onshore and offshore bond gains,

• taxable payment from a Purchased Life Annuity, 

• interest from savings accounts held with banks, building societies, NS&I and Credit Unions, 

• interest distributions from authorised unit trusts and open-ended investment companies,

• profit on government or company bonds which are issued at a discount or repayable at a premium and 

• income from certain alternative finance arrangements etc.

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Only if such income exceeds £200,000 do you need to consider your ‘adjusted income’, which in basic terms is your threshold income plus your salary sacrifice pension contributions.

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This is clearly a complex area and if you have any doubts regarding your personal annual pension contribution allowance you should seek professional advice from your investment advisor.

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Background to salary sacrifice

 

The benefits in terms of increased extraction from contract income can be clearly seen from the following summary monthly pay projections: