There have been calls to extend salary exchange rules to lower-paid earners. However, Kim Kaveh finds it would be very complicated and could cause problems for members
In his £1bn Autumn Statement raid in November 2016, Chancellor Phillip Hammond restricted many salary sacrifice benefits, which took effect from 5 April this year.
Despite speculation for some time that it could be taken away for pensions, the tax-saving mechanism is still alive and kicking.
As Now Pensions director of policy Adrian Boulding says: "There have been rumours for many years salary sacrifice for pensions would be removed, but in a free world it's difficult to say that an employee cannot say to their employer 'lets strike a bargain'."
A salary exchange arrangement allows a worker and employer to come to an agreement, whereby pension contributions are made wholly by the employer and taken from the employee's salary, rather than split between the employer and employee.
The incentive is members can save on tax and National Insurance contributions (NICs), and the employer also saves on NICs.
However, lower-paid earners are unable to benefit from such an arrangement, which has fuelled calls for salary exchange rules to be changed.
On behalf of Royal London and Radcliffe & Co., former pensions minister Steve Webb wrote a letter to the secretary of state for business energy & industrial strategy in October, urging the government to make changes to the salary exchange rules to extend it to lower-paid earners - even if it takes their wages below the minimum level.
As it stands, a salary sacrifice arrangement cannot reduce an employee's cash earnings below the national living wage (NLW) rate, which is £7.50 per hour for over 25s. The chancellor announced in the Autumn Budget on 22 November that from April this rate will increase to £7.83.
Royal London business development manager Jamie Clark says as there are tax benefits in salary sacrifice, "NLW earners are effectively at a disadvantage over someone with salary exchange who earns even £1 more than the NLW, as they will pay more NIC/tax."
He adds in many cases where salary exchange is used for pensions, the employer also passes on their NIC savings to the employee in the shape of a larger pension contribution.
"Changing the rules to allow salary exchange for low earners would allow employers to pay this little bit extra into the pension scheme for their workers."
Indeed, PP research earlier this month found over half (53%) of respondents which include pension scheme managers, trustees and consultants, agreed with Royal London and Radcliffe & Co.
Nonetheless, there is still some controversy on the issue.
Boulding argues if all was as simple as looking at the NLW, there would not be much of an issue to include the lower-paid in salary exchange.
However, there are a couple of other problems which make it too complicated, he adds.
Currently, if a member is in a ‘relief at source' scheme, and earning less than the £11,500 per annum tax threshold, they would still get tax relief on pension contributions. Under this scheme, the employer first deducts income tax under PAYE from the employee's earnings and then deducts the net member contribution from the employee's post-PAYE earnings.
Boulding says: "If a member switches to salary sacrifice, they would lose that tax relief because they would no longer be making the contribution, their employer would."
It is important to note this would not apply to a net-pay scheme, which is where the pension contributions are collected before income tax.
Furthermore, to get a full basic state pension, a member would have to work for at least 30 qualifying years in which they have earned at least £113 per week, for 52 weeks, from a single employer.
Boulding adds: "If a member salary sacrifices when earning below £113 then they would be missing out on state pension payments, and during their working life, if they don't get at least 10 qualifying years on NI, they get no basic state pension at all."
With this in mind, First Actuarial director Henry Tapper says he "does not think the government has any intention of addressing the issue."
Back in December 2016, the Treasury reviewed the operation of salary sacrifice schemes, but Tapper is positive there will not be another review for salary sacrifice law changes for pensions and says that "it is what it is."
"All we can do at the moment is to continue to highlight the gross inequality in the taxation system, and how little help people on low incomes are actually getting when being put into automatic enrolment."
There are clearly benefits of employees having salary sacrifice arrangements in pensions, but it would not always work in favour of the lower-paid.
While savings would be made on NICs, a salary sacrifice arrangement could potentially ruin a worker's chances of receiving full state pension payments, which would be extremely damaging to the overall member outcome. Furthermore, it does not seem likely the government is going to make any changes in the foreseeable future.
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