Salary sacrifice arrangements are very simple, highly effective and potentially beneficial to both employee and employer. It is almost too good to be true.
At the heart of a salary sacrifice arrangement is an agreement between an employer and an employee to change the terms of the employment contract to reduce the employee’s entitlement to cash pay. This sacrifice of cash entitlement is usually made in return for some form of non-cash benefit such as more holidays, a better car or enhanced health insurance.
Salary sacrifice can be financially beneficial for both employer and employee. For example, when part of an employee’s remuneration shifts from cash, on which tax and national insurance contributions (NICs) are due, to non-cash benefits that are wholly or partially exempt from NICs, both sides can be better off.
While simple in principle, and capable of being changed, suitable documentation is required. If an employee wants to opt in or out of a salary sacrifice arrangement, their employer must alter their contract with each change. Employees’ contracts must be clear on what their cash and non-cash entitlements are and, once the entitlements are clear, it is the employer’s responsibility to make sure that they pay and deduct the right amount of tax and NICs for cash and benefits.
Following the significant increase in salary sacrifice arrangements over the years, the government is becoming concerned about the potential loss of NICs. Concerns were raised in the Summer Budget, and the government announced in the Autumn Statement 2015 that it was launching consultation among employers, which seems likely to form part of a wider evidence-gathering process on the use of salary sacrifice.
At present, there is no clear indication as to which way the Treasury is likely to move. With the prospect that income tax and NIC maybe harmonised in the foreseeable future, it is unlikely that Her Majesty’s Revenue and Customs (HMRC) will remove any of the tax advantages from salary sacrifice.
However, HMRC is almost certain to take a tougher approach to ensuring that every detail of salary sacrifice schemes is implemented correctly, whether or not the harmonisation of income tax and NIC actually happens. Employer failures in implementation may mean that what looks too good to be true is proved by HMRC to be just that.
George Bull is senior tax partner at RSM UK Tax and Accounting