Cash compensation is one way to attract employees and reward them for their hard work – but it’s not the only way.
There are a number of in-kind benefits in the form of salary sacrifice programs that you can use as a great incentive to attract and retain employees.
In this article, we’ll explain your options, how they affect tax calculations, and the benefits and drawbacks of entering into these agreements for both you and your employees, so you can be confident in your decisions.
Here’s what we cover:
What is a salary sacrifice?
Also known as a salary exchange, it is an agreement between you and your employee to exchange their annual pre-tax salary in exchange for receiving a benefit in kind, such as: B. a good or a service.
Most commonly, employers offer child care, health care, transportation, and increased retirement contributions.
These benefits are voluntary and employees have the opportunity to opt-in or opt-out of the arrangements.
Most wage sacrifice programs, such as the Cycle to Work program, must be offered to all employees.
Therefore, you should set up a robust HR process to ensure contracts are updated and the correct information is provided to payroll.
How does a salary waiver work?
Before entering into an agreement, you must first agree on the cash value of the benefits to ensure that the employee is adequately compensated for their loss of income.
The agreement must not reduce your employee’s cash income below the National Minimum Wage (NMW).
Therefore, you need to put procedures in place to limit salary sacrifice deductions and ensure NMW rates are met.
For example, let’s say your employee’s current contract is for cash remuneration of £40,000 per year with no benefits.
You both agree that the employee will be paid a cash remuneration of £35,000 per year and that you will pay an additional £5,000 into the company pension scheme.
The employee has sacrificed £5,000 of his annual salary to benefit from an increased employer pension contribution of £5,000.
What salary waiver models are there?
Bicycle
With the so-called “Cycle to Work” program, your employee essentially rents a bike for the duration of the contract. The bike must belong to you or a third party.
To make the process easier, there are numerous providers in the UK that you can register with. The employee will contact you directly to select the desired bike.
Under the scheme there is no cap on the value of the bike unless you decide to cap the value.
At the end of the hiring period, the employee has a few options:
- Sign a new contract to re-rent the bike
- Buy the bike from the scheme
- Return the bike.
automobile
Similar to the bicycle scheme, employees can sacrifice a fixed amount of their salary each month in exchange for a brand new leased car.
The set monthly amount usually includes the essential extras that come with owning a car, such as: E.g. vehicle tax, insurance, breakdown cover, service and maintenance.
The car does not belong to your company, but the employee simply borrows it from the leasing company.
The leasing company remains the registered owner of the leasing vehicle and receives it back at the end of the term.
Pension
For employees who participate in the company pension plan, you must pay at least 3% of the employer contribution, but you can also choose to make a higher contribution.
One way to increase contributions is through a salary sacrifice pension.
This means that your employer contributions will increase, but they are actually the employee’s contributions as their salary is reduced proportionately.
There is no specific limit to how much the employee can sacrifice.
But as previously mentioned, your employee’s reduced salary must remain above the national minimum wage.
You also need to remember that each person can only contribute a total of £40,000 per year towards all pension savings.
This also includes employer contributions. Therefore, make sure that the higher contributions from your salary sacrifice do not push you beyond this.
It is also helpful to check the minimum and maximum contributions permitted by the pension insurance provider.
Childcare vouchers
Unfortunately, this program is closed to new applicants (they now have access to tax-free child care), but you can still use the program for employees who joined on or before October 4, 2018.
Employees taking part in the scheme can sacrifice up to £55 per week of their salary in exchange for vouchers of the same value which they can redeem with registered childcare providers.
What do salary losses mean for taxes and social security contributions?
Since salary sacrifice is deducted from pre-tax salary, this means that employees save income tax and national insurance on the amount sacrificed.
For example, let’s say they are paid £350 a week and £50 of that salary is sacrificed for childcare vouchers of the same value. The result is that only £300 is subject to tax and national insurance.
The employer’s savings refer to the employer’s social security contributions.
In general, employers contribute 13.8% to social security and can therefore achieve up to 13.8% savings on all funds processed through salary sacrifice.
It should also be borne in mind that the reporting requirements for benefits in kind differ from those for cash income.
Generally, benefits must be reported to HMRC at the end of the tax year using the online year-end expenses and benefits form.
Advantages of salary sacrifice for employers and employees
As mentioned above, the common advantage of all schemes is that employees can claim exemption from income tax and social security for the amount sacrificed.
Salary sacrifice programs also make high-ticket items like a car or bike more affordable by giving your employees the opportunity to spread the cost.
Paying for these items in monthly installments deducted directly from your salary is much easier than paying a lump sum upfront.
You can also use these benefits for business and personal purposes.
This means that as an employer you do not have to pay business miles because the employee no longer uses their private car for business trips and therefore does not claim business miles.
The same benefits also reward employers, as the programs help attract staff and increase employee retention.
In addition, employers save tax costs because no employer social security contribution has to be paid for the portion of the lost salary.
Disadvantages of salary sacrifice for employers and employees
Since salary sacrifice programs essentially reduce the employee’s salary, this could impact any loan or mortgage applications.
This also means that work-related statutory payments (employer-paid payments based on average earnings over a given period, such as statutory maternity pay and statutory sick pay) will also be affected.
With a car leasing program, the employee must pay a benefit-in-kind tax (BIK) at the end of the year.
Unless the car they are leasing is an ultra-low emission vehicle such as an electric car, they may pay more in BIK tax than they would save in income tax and national insurance contributions.
Complications can arise for employers when there is high staff turnover.
For example, if your employee leaves a car during the lease term, the company is left with ongoing monthly payments or an early lease termination fee.
Salary Sacrifice Frequently Asked Questions
Here you will find answers to frequently asked questions about salary sacrifice:
Can employees participate in or opt out of salary sacrifice programs?
Yes, salary sacrifice is voluntary.
If an employee wants to agree to or reject a salary sacrifice agreement, you will need to adjust their contract each time there is a change. Your employee’s contract must clearly state what their entitlement to cash and benefits in kind is at any given time.
Therefore, sacrificial agreements typically last for at least 12 months unless the employee experiences a lifestyle change.
In this case, the agreements would be reviewed, then adjusted or deleted from the employee’s contract.
Does the salary waiver appear on the payslip?
Yes, a salary sacrifice should appear on an employee’s paystub.
The amount sacrificed is shown as a deduction before tax and social security.
Can salary reductions be made retroactively?
No, a salary waiver cannot be made retroactively.
It is only valid from the moment you and your employee make the agreement, that is, the day the contract is signed by both parties.
Can salary cuts be mandatory?
No, this is a voluntary reduction in an employee’s salary that must be agreed upon in advance between employer and employee.
Therefore, you should not automatically include employees in a salary sacrifice program.
Where can I find more details about salary sacrifice?
The government website has information about pay cuts and what it means for employers and their employees.
There are details on a wide range of topics, including changing the terms of a salary sacrifice agreement and what this means for company pension schemes.
You can also speak to a payroll expert or an accountant who offers payroll services.
Final thoughts on salary sacrifice
Once you have the processes in place, a salary sacrifice agreement is a win-win for you and your employees.
In addition to tax savings and increased convenience, they can also encourage good savings habits, low-emission transportation options and a healthier lifestyle.
As an employer, you don’t have to offer every program, but consider surveying your employees to find out which programs they think they would benefit most from.
Editor’s Note: This article was first published in June 2020 and has been updated for relevance.