Why use salary sacrifice pension?

For most employers, the cost of employing workers has increased significantly.

From 6 April 2025, the rate of Class 1 Employers’ National Insurance Contributions (NIC) will increase by 1.2 percentage points to 15%. In addition, the threshold at which employers start to pay employers’ NIC on earnings will decrease from £9,100 to £5,000. The change in this threshold alone will cost £615 per annum per employee.

The rates of National Living Wage also continue to increase, alongside the Government’s efforts to get more employees saving for retirement through auto enrolment pension contributions.

At a time when costs are high, and employees look to save costs in all areas, they may be looking at ways to maximise their take-home pay.

This is where it’s helpful to understand that the expenses for both employers and employees, relating to workplace pension schemes, can be partially funded using savings from salary sacrifice.

What is salary sacrifice?

Salary sacrifice is an agreement between the employer and the employee which amends the employee’s contractual entitlement to future cash earnings (usually their salary) in return for new or increased entitlement to non-cash benefits.

Salary sacrifice pension

Entering into a salary sacrifice arrangement for workplace pensions means that, normally, an employee formally exchanges a proportion of their salary (equating to the employee pension contribution percentage plus tax relief) and, in return, the employer makes a direct contribution into the employee’s pension scheme as an employer contribution.

As part of the employee’s salary is ‘exchanged’ rather than paid to the employee, National Insurance Contributions (NICs) are not due on the amount exchanged—resulting in cash savings for both the employer and employees.

Contributions into workplace pension schemes are exempt from income tax regardless of whether the employee or employer is making the contribution.

The cash savings available are equal to the NIC savings which, for the employer, will be 15% on earnings over £5,000, from 6 April 2025, whilst basic rate taxpayers can personally save 8%, with higher rate earners saving 2%.

Examples

As an example, let’s look at an employee earning £35,000, who is auto enrolled on all earnings.

And for a higher tax rate, an example on £55,000 per annum, on all earnings.

Other points to consider

Salary sacrifice can’t reduce workers’ pay below the appropriate National Minimum/Living Wage (NMW/NLW) and therefore careful consideration needs to be given to lower paid earners and people who are already in sacrifice arrangements who may be about to move into a new age banding for NMW/NLW.

Entering into a salary sacrifice arrangement must be done voluntarily and fully considered as it impacts gross pay, which, in turn, can impact entitlement to statutory payments and other earnings-related benefits.

Employers can pass on their NI savings by including them in their employer pension contributions – this can be at any percentage of the savings; commonly seen amounts are 50% or 100%.

A salary sacrifice arrangement should be for a period of at least 12 months and should not be capable of being varied at will. The only instance where changes are allowed within the 12-month period is if the employee’s lifestyle changes significantly, such as becoming a parent. Where this could have an impact, in practice, is that you may wish to offer your employees the opportunity to reinvest their own NIC savings each month into their pension, to leave them with the same net pay that they would have had. However, as neither the salary sacrifice nor the pension contributions should be variable, a fixed amount/percentage would need to be agreed on at the start of the year. As there are lots of changing contributing factors in calculating net pay, this may not work out perfectly.

Need help?

You can contact your usual Larking Gowen advisor on 0330 024 0888 or email enquiry@larking-gowen.co.uk. You can also find contact details on the Our People section of the website.

Dannielle Chapman