Salary Sacrifice – Avoid The High Income Child Benefit Tax Charge

What is Salary Sacrifice?

Save Tax with Salary SacrificeSalary sacrifice is an arrangement where you give up part of your salary in return for which you receive a non-cash benefit. Salary sacrifice is a variation to your contractual terms and conditions of employment.

By receiving benefits under a salary sacrifice arrangement, there will be a reduction in your salary. If this is replaced by tax and/or National Insurance contributions exempt benefits, there will be a reduction in the amount of National Insurance contributions or income tax that you pay. Your employer will also save money on the employer’s National Insurance contributions. Sometimes, the employer will pass some or all of their savings onto you.

You should be aware that by agreeing to reduce your salary, this could affect the level of certain State benefits you may be eligible to receive. For example, statutory maternity pay or state pension may be affected by lower National Insurance contributions. Also, salary sacrifice could possibly affect any life insurance cover that you have if it’s based on your salary. For more information, see the Government website.

What benefits are included with salary sacrifice?

Below are some of the benefits that your employer might include within their salary sacrifice scheme:

  • Childcare
  • Cycle to Work schemes
  • Ultra-low emission cars
  • Pensions (Including advice)

Employee BenefitsThere are other benefits available via salary sacrifice if your employer offers them, such as gym membership, mobile phones and car parking etc. The benefits listed above are free of Income Tax and National insurance, whereas other benefits are just free of National Insurance.

NOTE: Employees in existing schemes prior to April 2017 may still be eligible for tax relief on some other benefits.

So what savings can be made using Salary Sacrifice?

In order to understand the potential savings, it helps to know what taxes are paid on your earnings. Below are the current NI and tax rates for the 2017-2018 year:

UK Tax Rates

Personal Allowance £11,500
Basic Tax Rate: £33,500
Higher Tax Rate: 40% between £33,501 and £150,000
Additional Tax Rate: 45% above £150,000

Class 1 National Insurance

Most employees under the state pension age will pay 12% National Insurance on earnings between £8,164 and £45,000. A 2% rate on National Insurance applies thereafter. Employers have to pay 13.8% on earnings above £8,164. More information on the 2017-2018 National Insurance and Tax rates is available from the Government website.

When exchanging salary for a benefit, neither you or your employer will pay NI. Neither of you will pay NI and income tax for some benefits such as a pension. It’s for this reason many employers are seeing the benefits and cost savings of running such a scheme.

Below are two of examples of the potential savings for both a basic rate taxpayer and and a higher rate taxpayer. Both examples demonstrate the potential tax savings of the employee’s contributing to their employers pension scheme via salary sacrifice.

Basic rate taxpayer without salary sacrifice:
  • Employee’s net monthly pension contribution is £100
  • Employee’s contribution is increased by tax relief of £25
  • The total invested is £125
Basic rate taxpayer with salary sacrifice:
  • *Employee agrees to reduce monthly pay before deductions by £147.06
  • Employer pays into employee’s pension the salary reduction of £147.06
  • ***Employer can pay into their saving of up to £20.29 into the employee’s pension
  • The total invested is £167.35

Employee’s monthly pension investment increases by £42.35

Higher rate taxpayer without salary sacrifice:
  • Employee’s net monthly pension contribution is £100
  • Employee’s contribution is increased by tax relief of £25
  • The total invested is £125
  • Employee can claim through tax return additional tax relief of £25
Higher rate taxpayer with salary sacrifice:
  • **Employee agrees to reduce monthly pay before deductions by £129.31
  • Employer pays into employee’s pension the salary reduction of £129.31
  • ***Employer can pay into their saving of up to £17.84 into the employee’s pension
  • The total invested is £147.15

Employee’s monthly pension investment increases by £22.15

* £147.06 gross pay less income tax (20%) of £29.41. NIC saving (12%) of £17.65. Net cost £100.
**£129.31 gross pay less income tax (40%) £51.72. NIC saving (2%) of £2.59. Net cost £75.
***The employer will decide how much of their NI saving will go into the employee’s pension. The maximum amount is 13.8% of the reduction in salary. These calculations assume the employer contributes the maximum amount of their saving into your pension.

It’s worth noting that the higher rate taxpayer can also claim back additional tax relief. There is a lot of debate in the press at the moment about this ‘extra benefit’ that higher rate taxpayers get over the basic rate taxpayer. I feel that this ‘extra benefit’ has limited lifespan now and I personally am taking full advantage of it whilst I can.

Using Salary Sacrifice to Claim Child Benefit

H&M - Child Benefit High Income Tax ChargeFamilies in which parents each earn less than £50,000 can claim their full entitlement to child benefit. If a parent earns between £50,000 and £60,000, then there is a reduction. For every £100 of income earned between £50,000 and £60,000, 1pc of child benefit will be taken back via your tax return. For example, if you earn £55,000, 50pc of your child benefit will be taken back. If any parent earns more than £60,000 you will not be entitled to claim child benefit.

Your eligibility for child benefit depends not just on earnings but on “adjusted net income”. This includes all taxable net income, including rental income and investments. Bonuses and benefits in kind count as well.

If your employer runs a salary sacrifice scheme, you can use it to replace taxable earnings with non-taxable benefits, such as childcare vouchers. Alternatively, you could ask your employer to reduce your salary but make up the difference in your workplace pension scheme. This could reduce your salary to less than £50,000, entitling you to full child benefit.

If you earn £55,000 and make £5,000 of pension contributions, you will decrease your taxable income to £50,000. This means you will be eligible for the full child benefit and have more money saved for when you retire. Paying money into a pension means you also benefit from a reduced income tax bill.

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