The benefits of salary exchange

As businesses battle through the economic downturn, ‘win-win’ situations are increasingly hard to find. But salary exchange could fall into such a category, allowing firms to increase the benefits they pay to staff, while at the same time reducing costs.

Salary exchange sees workers give up salary or bonuses in return for some other benefit – such as a contribution to a pension scheme or childcare vouchers. The reduction in actual salary paid results in reduced National Insurance Contributions (NICs) for both the employer and employee.

These NIC savings can be added to the employee’s salary, or invested in the benefits concerned, to further enhance the package on offer. Most employees can benefit in this way; however, it should be noted that following the 2009 budget, anyone earning over £150,000 will see tax relief on pension contributions reduced on a sliding scale from a starting point of 40 per cent, to 20 per cent for anyone earning above £180,000, reducing the advantage to the highest earners.

For HMRC to approve a salary exchange arrangement, it must satisfy a number of conditions – specifically that it is in writing, signed and dated; it is not retrospective; and it constitutes an enforceable variation of the employee’s right to salary. Salary exchange relies on changing employees’ contracts, and should be intended as a permanent move. HMRC will not give an opinion on an agreement’s likely impact on tax and NI before it is brought in, but will confirm its status once a scheme is up and running.

Despite the obvious benefits of salary exchange for some firms and employees, it may not be for everyone. Low-paid employees may not benefit from inclusion, as benefits received through salary exchange could complicate their position regarding any state benefits they receive. The scheme’s effect on the State Second Pension and existing employee benefits, such as death-in-service benefits, should also be investigated. It would also be a good idea to investigate the extra administrative burden such a scheme would bring before one is introduced.

It should be remembered that as well as group personal pension schemes and money purchase occupational schemes, salary exchange can also be used for defined benefit schemes. The payments provided are unaffected, but the NI saving could be used to top up the scheme, or to provide other benefits.

John Kinsella
Watson Buckle
Part of the MGI association
www.mgi-uk.com