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Can salary sacrifice reduce tax?

  • 4 min read
  • Last updated 4 Apr 2023

Using salary sacrifice to reduce the tax you owe is a great hack to be more tax efficient. But how does it work and who actually wants to sacrifice some of their salary? Keep reading for the answers to these burning questions! 🔥

In this guide, we’ll cover:

  1. What actually is salary sacrifice?
  2. How does it reduce tax? 
  3. What changed in 2017?
  4. Why use salary sacrifice for your pension? 
  5. Is salary sacrifice worth it?

So, what actually is salary sacrifice? 

Salary sacrifice is a scheme where you give up part of your salary in exchange for a non-cash benefit. This can be bigger pension contributions, a travel card, a work phone etc. 

Who would sacrifice their salary?

The 1 million dollar question. Who the heck would be up for this? Generally, higher earners benefit the most because it can be a tool to increase your take home pay.

But how could that be true? 🤯

Basically, the salary sacrifice scheme reduces your tax liability by replacing cash salary with non-taxable – or tax relieved – income. An example could be that you sacrifice £1,600 of your salary for a bike through your employer’s salary sacrifice scheme. 

Here’s an example. Imagine you have a £101,000 salary, and you exchange £1,600 of that on a bike.

How is my £1,600 bike taxed with £101,000 salary?

Tax rate (%) paid on bikeCost to youGross salary (cash)Taxable income 👀Tax-free income
With salary sacrifice0%£0£99,400£86,830£14,170
Non-salary sacrifice benefit40%£640 (tax deducted from salary)£100,360£87,970£13,350
Without any employee benefit40% + 20% £1,600(bought after tax from take home pay)£101,000£88,930£12,070

As you can see from the above table, your taxable income is highest when you buy a bike outside any scheme, whether that’s a benefit in kind or salary sacrifice. (We’ll come onto the difference between these things later.) 

With salary sacrifice, you avoid being tipped into the 60% tax bracket which affects people who earn between £100,000 – £125,140. Instead, your £101,000 salary is made through a combination of cash and non-cash remuneration. 

What happened in 2017

Things changed. People changed.

Pre-2017, a long list of benefits was eligible for totally tax-free salary sacrifice. Think gym membership, travelcards, shopping vouchers etc. But then ex-Chancellor of the Exchequer Philip Hammond introduced some new rules which cut back on the fun tax-efficiency, fearing that many employees and employers were sidestepping their tax liability via salary sacrifice.  

Today, many company perks are now taxable. They’re still more tax-efficient than a cash salary, but you get a tax relief on them rather than them being non-taxable benefits. The tax is recorded and paid using a form called the P11D

Here are the non-taxable perks that Hammond left uncut:

  • Pension contributions
  • Childcare vouchers or employer contracted childcare
  • Cycle to work schemes
  • Ultra-low emissions cars

Why use salary sacrifice for your pension?

Contributing more to your pension via a salary sacrifice scheme is a good tactic to be tax efficient. Your pension contributions are taken from your salary before tax is deducted, reducing your taxable income. In other words, your take home pay is higher. 

If you earn less than £50,270 per year, you also get an automatic 20% tax relief on your contribution. 

If you’re a higher or additional rate taxpayer (so you earn between £50,271 – £125,140 or £125,141+ respectively) you can claim an additional 20% to 25% tax relief. But to claim this, it’s not automatic. Unfortunately, you’ll have to submit a self assessment. Fortunately, TaxScouts is a thing 😉.

What pension scheme is your employer using?
Check with your employer if you’re not sure which one they’re using
Your annual income
Pension contributions
Select tax year
Pension contributions
Automatic relief
Pension contributions
Automatic tax relief
Your pension provider will automatically get this tax relief for you.
You don’t need to do anything.
Extra tax relief you can claim

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How your pension tax relief is calculated

HMRC will basically give you back the tax that you paid on the income that you used for your pension contribution.

In your case you earned £49,000 and contributed £1,000 to your pension.

Automatic Tax relief

You get £250

Your pension provider will automatically get this for you and add it to your pension pot.

Your pension pot will now be worth £1,250.

Are salary sacrifice schemes worth it? 

Well, the question here is… who are you? 

No, seriously. The answer to this really does depend on who you are. There are some salary sacrifice schemes that are beneficial outside the financial gain. 

But if it’s financial gain you’re after – and who could blame you – salary sacrifice schemes can be a really good way to sidestep the dreaded 60% tax. Although it’s not an official income tax rate, it’s what you’re charged when you earn over £100k and you start to lose entitlement to your tax-free personal allowance.

So if you’ve just started earning £100k+ but you don’t earn £125,140+, salary sacrifice is a good way to make your tax-free income stretch. 

What are some examples of salary sacrifice benefits?

Here are some examples of both taxable and non-taxable benefits that you might be offered through your employer.

  • Gym membership
  • Yearly travelcards
  • School fees
  • Extra annual leave 
  • Tech (laptop, mobile phone, tablet)
  • Company options and shares
  • Private healthcare
  • Car parking near your workplace
  • Work-related training
  • Childcare costs
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