It’s No Sacrifice…Tax Planning with Salary Sacrifices

It’s No Sacrifice…Tax Planning with Salary Sacrifices
A salary sacrifice is an arrangement whereby an employee agrees to a reduction in his salary, typically in exchange for some other payment or benefit which is not taxable in his hands.


If the sacrifice is done properly, then the employee’s tax bill is reduced, and the employer saves on the NIC he would have had to pay on the amount of salary that has been sacrificed.


Typically, a salary sacrifice involves a benefit that is not taxable, and some common examples are:


?  Training courses

?  Removal expenses when taking up a new employment

?  Childcare vouchers


For example:


Casey is employed by a firm of accountants in its tax department, earning £25,000 a year. He very much wants to go for his Chartered Tax Adviser qualification, and if his employers were to pay for an appropriate training course and his exam fees, it would cost them £2,500, and the cost would not be a taxable benefit on Casey.


The firm cannot afford this cost, however, and so it is agreed with Casey that he will sacrifice £2,000 of his annual salary, and the employer will pay for the course and the exam fees.


Casey’s salary is reduced by £2,000, which after taking his saving on tax and his NIC deductions into account means his monthly pay packet reduces by only £115. His employer saves just over £21 per month in employers’ NIC, so over the year the net cost to the employer is only £244 (cost of training course = £2,500, less salary sacrifice and related employers NIC £2,256).


It is important to arrange the salary sacrifice properly. In order to be effective for tax purposes, the following conditions must be observed:


Contract Of Employment


The reduction in salary must be effected by a genuine change in the employee’s contract of employment. Although in theory this can be done by word of mouth, it is sensible to have something in writing, signed by both employer and employee, to confirm the change in terms and conditions. An exchange of letters is usually sufficient.




The salary must be sacrificed before the employee has become entitled to it. In a typical case where the employee is paid a monthly salary like Casey, the best way is for the sacrifice to be agreed (and the letters exchanged) before the start of the first month in which the sacrifice will take effect. If Casey will have his first reduced pay packet at the end of September, he should sign up for the sacrifice by the end of August.


Provision Of Benefit


It must be quit clear that it is the employer who is providing the benefit, rather than simply applying some of Casey’s salary in a different way. A salary sacrifice where the employer agreed to pay Casey’s mortgage, for example, would not be effective.


No going back


It must not be possible for the employee to reverse the salary sacrifice and go back to the original salary whenever he wishes. This is because there is a tax case (Heaton v Bell) which established that if an employee can give up a benefit at any time in exchange for a salary increase, then that benefit has a “money’s worth” equivalent to the increase you can get by renouncing it.


Casey’s agreement about his training costs is clearly for one year (assuming he passes his exams at the first go!), and at the end of the year, his salary will revert to its old level. In the case of childcare vouchers, for example, the period of the sacrifice may be uncertain at the start.


HMRC generally accept that where the sacrifice lasts for 12 months or more, they will not apply the Heaton v Bell principle. The employee should have the opportunity to continue or to end the salary sacrifice only once a year - the obvious time would be the annual salary review.


HMRC Attitude


HMRC used to be very suspicious of salary sacrifices, but as remuneration arrangements for employees have become more flexible and sophisticated over the years, their attitude has mellowed and they now accept that they work. There is even a helpful page on their website explaining how a sacrifice works, and warning of the pitfalls:


James Bailey