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Cutting tax with salary sacrifice: a short guide

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This content is for information purposes only and should not be taken as financial advice. Every effort has been made to ensure the information is correct and up-to-date at the time of writing. For personalised and regulated advice regarding your situation, please consult an independent financial adviser here at Castlegate in Grantham, Lincolnshire or other local offices.

The UK is currently facing its highest tax burden in almost 70 years. From April, for instance, a new Health & Social Care Levy will come into force – adding 1.25% to dividend tax and also to National Insurance (NI) contributions (for workers and employers). As such, it is understandable that many people are looking for legitimate ways to reduce needless taxes and ease pressure on their monthly finances.

Below, our team at Castlegate (financial planners in Grantham, Lincolnshire) explores salary sacrifice as a potential route to achieve this. We hope you find this content helpful. If you want to discuss your own financial plan with us, please get in touch to arrange a no-obligation financial consultation, at our expense:

01476 855 585


What is salary sacrifice?

A salary sacrifice arrangement is an agreement for an employer to reduce an employee’s entitlement to cash pay, usually in return for a non-cash benefit. In this article, we will look at salary sacrifice for pension contributions. Here, your employer takes some of your salary/bonus and puts it into your pension as an “employer contribution”. This differs from the “net pay” way of doing things, where your employee contributions are taken directly from your monthly salary (before they get taxed). These are not subject to income tax and will even get pension tax relief (if eligible) at your highest rate of income tax. However, NI contributions will apply.

One benefit of salary sacrifice is that contributions made this way are not considered part of your pay, and so NI does not apply. This means that, overall, you can end up boosting your pension whilst paying less NI. Your employer likely also saves on their NI bill too.


An example

Suppose you earn £25,000 – so, £20,000 once tax is factored in – and your pension contribution rate is 5%. This likely means you put £1,250 into your pension for the year, when you add on tax relief at the Basic Rate. When you add your employer’s 3% contribution, the total contribution for the year is £2,000.

One day, you approach your employer and ask them to lower your salary by £1,000 in exchange for salary sacrifice (leaving you with £19,200 once tax is taken away). This would lower your monthly contribution by about £50. The 3% from your employer remains, however, and £1,000 is also put into your pension (for the year). This means that you are now putting in over £2,900 per year, rather than £2,000.



Salary sacrifice can be a great way to save on tax in the short term, whilst boosting your long-term savings via your pension. However, a reduction in salary should not be done lightly as this has wider effects with the rest of your financial plan. First of all, if you have “death in service” benefits with your employer, then these might be affected by salary sacrifice. These pay out a lump sum to your loved ones when you die – such as 4x your earnings. So, naturally, if your salary is lower then this could reduce the lump sum.

Secondly, salary sacrifice can make it harder to get a mortgage. This is because lenders take your income into account when deciding how much you can borrow (along with other factors like your credit score). Your maternity or paternity pay may also be reduced if you go down this road, which may not be ideal if you have a child on the way.

On the other hand, reducing your salary can make you eligible for certain state benefits which may not have been available before (or tax credits). Child benefit, for instance, is available to parents with children under 16 and your – and your partner’s – individual income is below £50,000. For one child, this benefit is worth up to £21.15 per week (£1,099.80) per year and allows you to keep building up your State Pension by claiming NI credits.


High earners and salary sacrifice

For those with large incomes – e.g. over £100,000 – salary sacrifice can be a powerful tool for helping save on tax. Not only can it lower a NI liability and increase your pension pot, it can also help people retrieve their personal allowance (which is reduced by £1 for every £1 earned over £100,000). One study by Royal London lays this out nicely:

  • Suppose you earn £125,140 per year. This means all of your income is taxable, since your personal allowance is eliminated.
  • The income after tax, here, is £76,242.36.
  • When the personal allowance is taken away, the “effective rate” of income tax between £100,000 and £125,140 is 60%. However, if a £25,140 pension contribution is made, this “effective rate” disappears.
  • Here, the income after tax would be £66,186.36.
  • If salary sacrifice is used, moreover, then the effective tax relief goes up to 67%.
  • This would leave an income after tax of £66,689.16.


Conclusion & invitation

If you are interested in discussing your own financial plan or investment strategy with us, please get in touch to arrange a no-commitment financial consultation at our expense:

01476 855 585