With next year’s manifesto-busting increase in national insurance contributions and dividend income tax already announced, what further measures might the chancellor be looking at to raise revenue?
Figures from HM Revenue & Customs tell us that the cost of pensions tax and NIC relief (net of tax received on pension income) rose to £41.8bn in 2019-20, so the generous tax and NI incentives given to pension contributions made via salary sacrifice might be one.
To understand why, we need to look at how salary sacrifice for pension contributions works and the rules surrounding optional remuneration arrangements (Opra) rules.
Opra
A benefit is said to be given under Opra rules if an employee:
- Gives up the right, or the future right, to receive an amount of salary; and
- Agrees to be provided with the benefits rather than an amount of cash.
Changes to the legislation in 2017 meant that the tax and NI advantages where benefits are provided through such arrangements were largely withdrawn and the employee will continue to be taxed on the benefit provided.
However, some benefits will be excluded from tax under Opra via an exemption. One of these exemptions is provided for payments made by employers to registered pensions schemes, which is where salary sacrifice pension contributions come in.
Pension contributions
We know pension contributions benefit from tax relief (subject to certain limits) but those made via salary sacrifice give a saving on NI for both the employee and the employer.
Lucky employees may also find their employer passes all or some of their own employer NI saving by adding it to the value of the pension contribution made for them. However, salary sacrifice arrangements must not reduce an employee’s cash earnings below the national minimum wage.
Let’s consider an example of someone earning £50,000 in 2021-22 and making employee pension contributions of 6 per cent gross a month.
If the employee entered into a salary sacrifice arrangement for the contribution amount, they would have a lower salary on paper, but the NI savings would be £360 for the employee and £414 for the employer over the year. This would boost the employee’s take home pay amount and they still have a 6 per cent gross contribution paid to their pension for the year, plus whatever contribution their employer makes on their behalf.
Next year, the exemption from the Opra rules given to pension contributions will look even more attractive alongside the 1.25 percentage point increase in NI rates for employees and employers.
But what about 2023 and the introduction of the new levy? According to HMRC, a worker earning £67,100 (the median earnings among higher rate taxpayers) will face paying an additional £715 per year.
This potential for contributions to be made via salary sacrifice to mitigate this extra bill could prove too tempting for the chancellor not to attack in order to finance his recovery strategy.
However, bringing contributions into Opra would be a kick in the teeth for workers facing an NI rise and some employers, particularly those facing an increase in corporation tax (potentially up to a rate of 26 per cent), while trying to recover their own finances post-Covid.
Charlene Young is senior technical consultant at AJ Bell
