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Salary sacrifice pension: calculators, schemes, and examples

Salary sacrifice schemes, also referred to as “salary exchange schemes,” are schemes whereby you, as an employee, agree with your employer to reduce your salary (or bonus) by a sum which they then contribute to a pension scheme.

Salary sacrifice pension guide: Summary Table

🆓 Can I auto-enrol into a salary sacrifice pension?No, it is voluntary
🤔 Can I have a salary sacrifice pension as self-employed?No, it is only available via employers
⚖️ Is there a limit to a salary sacrifice pension?There is no limit, but your remaining salary should be above the national minimum wage
📶 Does salary sacrifice pension boost your pension?Definitely

It is an option chosen by some individuals who want to increase their pension pot size. So if you want to discover more about salary sacrifice schemes, you’re in the right place. In addition to explaining what a salary sacrifice arrangement is, this Moneyfarm blog also looks into how to set one up and the pros and cons of doing so.

How do salary sacrifice pension schemes work?

Supposing you are already in a workplace pension scheme in your current employment. Your salary is £40,000 per annum, and you’re paying 5% in pension contributions (£2,000 pa) while your employer is contributing the mandatory 3% minimum (£1,200 pa). Now let’s check out what happens when a salary sacrifice pension scheme is introduced.

Say you decide to set up a salary sacrifice scheme, and you sacrifice £5,000 per annum, reducing your salary to £35,000; the table below shows what happens.

 Workplace pensionSalary Sacrifice Pension Scheme
Gross salary (annual)£40,000£35,000
Your contribution£2,000 (5%)Zero – made by the employer
Your employer’s contribution£1,200 (3%)£3,200 (3% + 5% of £40,000)
Total NI contributions£3,695£3,046
Income tax you pay£5,486 (20% of £27,430)£4,486 (20% of £35,000)
Take home salary£30,818£32,468

The convenience of a salary sacrifice pension calculator

Remember that the calendar year and the tax year are different when doing calculations. While the calendar year runs from the 1st of January to the 31st of December, the tax year runs for 12 months, starting on the 6th of April one year and ending on the 5th of April the following year. The current UK tax year began on the 6th of April 2022 and runs up to the 5th of April 2023.

The calculations needed to determine how much you will benefit from entering into a salary sacrifice pension scheme are quite complex. Not only is everything calculated in terms of weeks rather than months or years, but if NI thresholds and percentage rates fluctuate during the tax year (as they have done this tax year), it gets quite messy.

But fear not. You’ll find plenty of free calculators online, including the Aviva salary sacrifice calculator and the Royal London salary sacrifice calculator.

In Scotland, the tax and NI thresholds are different to England. If you live and work in Scotland and want to access a calculator, Aviva has a salary sacrifice calculator for Scotland on their website.

When doing tax calculations, you must be aware of certain critical dates. A blog on the Moneyfarm website entitled UK tax year dates 2022 – 2023 carries the necessary information.

The benefits of salary sacrifice schemes

As seen from the table above, there are certain benefits to be enjoyed by participating in salary sacrifice schemes.

Employee savings:

  • National Insurance contributions are reduced
  • You pay less income tax
  • You increase your take-home pay
  • You can divert your National Insurance Contributions (NICs) and income tax savings into your pension fund.

With other pension options, you will pay income tax on your contributions, although your pension provider will claim it back and add it to your pension. So, it doesn’t reduce your tax liability. However, salary sacrifice pension tax relief reduces your liability because it reduces your salary by the sacrificed amount at source before tax is applied.

Also, you pay less NI because of the salary reduction at source, so together with reduced income tax, both events provide real cash benefits.

There is another benefit in terms of pension tax relief for high earners, there is no need to claim back the extra between 20% – 25%, which you would have to do with any other pension scheme.

Employer savings and benefits

It’s not only the employee that benefits. While you enjoy income tax and National Insurance savings, your employer’s contributions in terms of NI are also reduced. If the employer wishes, they can invest the NI savings back into the business.

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Salary exchange pension schemes can also benefit the employer as these pension schemes can be used in recruitment advertising campaigns.

The disadvantages of salary sacrifice

Salary sacrifice does have a downside too. Possible negatives include:

  • Lower take-home pay.
  • Lower income might mean a reduction in benefits from your employer.
  • Salary sacrifice pension contributions might take you under a particular threshold which could result in losing a percentage of any life insurance you get from your employer.
  • Reduced salary might also affect certain benefits if your salary sacrifice contributions take you below the threshold at which NI contributions are paid. It could affect things like statutory maternity pay and your state pension.

Setting up a salary sacrifice scheme

If you’re in full-time employment, you can ask your employer if they operate a salary sacrifice or salary exchange scheme. If they do and you’re eligible, they’ll enrol you in their scheme, which will mean them providing you with an amended employment contract. There’s no need for you to inform HMRC.

With one proviso, you can sacrifice as much salary as you can afford. However, if your subscriptions take your salary below the national minimum wage, you cannot proceed.

Employers aren’t obliged to operate a salary exchange scheme. Some think it might be too complicated to install. Still, there is plenty of help available from the likes of the Royal London salary exchange and Nest salary sacrifice advisory services. It’s also worth mentioning that the higher education sector has its own salary sacrifice scheme – the USS salary sacrifice program.

If your employer cannot oblige you, other pension options are open to you.

If you’re self-employed, you cannot join a salary exchange scheme. However, you can check out the self-employed pensions options available.

Is salary sacrifice right for you?

Whether entering into a salary sacrifice contract with your employer is right for you is a personal decision. It depends very much on individual circumstances.

The salary sacrifice effect is that you can end up with more take-home pay, but it could affect your ability to obtain credit (including a mortgage). Check out the salary sacrifice pension example shown in the table above. It will give you an idea of how much more take-home money you’ll receive. It would help if you used a salary exchange pension calculator for an answer tailored to your circumstances.

Reviewing Pension Progress

It’s important to keep an eye on how your pensions are performing. If you have several, and some are performing better than others, it might be worth considering a pension transfer.

When people hit their 50s and retirement looms closer, reviewing how retirement savings progress becomes more critical. A pension transfer is one option, as is switching to a salary exchange scheme, but there are other options too, which you can check out by reading the 50s retirement savings article on the Moneyfarm website.

Receiving income from pensions

Having discussed a salary sacrifice pension from the point of view of setting one up, we should also look at what happens at the other end – when you reach your preferred retirement age and start to take income from your pensions. It poses the question, is pension income taxable? Yes, we’re afraid it is.

An alternative is to invest in an ISA. ISAs are not pensions, but they have the advantage of tax-free withdrawals and allowances. It’s worth bearing in mind as it could stop you from deferring state pension, as when combined with other pension incomes, it might push you into a higher income tax territory.


Should I opt for a salary sacrifice pension?

Salary sacrifice is not for everyone. Opting into a salary sacrifice pension scheme is based on individual circumstances. Look at the pros and cons before committing to a pension scheme. For instance, a reduced salary may affect mortgage payments, state pensions, and other benefits. Make sure all these do not have an adverse effect on your financial situation.

Can salary sacrifice affect my state pension?

Yes, it can. Opting into a salary sacrifice pension means you pay less tax and National Insurance. National Insurance is used to calculate how much state pension you are entitled to upon retirement. If your taxable earnings drop below the lower earnings limit (LEL), employees do not pay National Insurance, and 35 years of National Insurance contributions is needed to qualify for the full state pension.

What circumstances can alter the terms of a salary sacrifice pension arrangement?

An employee’s financial circumstance can change due to lifestyle changes and situations, such as divorce, Covid, marriage, pregnancy, and death. These changes can lead to an employee opting in or out of a salary sacrifice arrangement. Please note that there may be a penalty from HMRC if an employee opts out more than once in a 12-month period without a good reason.

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