Salary sacrifice is an arrangement whereby an employee agrees to a reduction in gross pay, in exchange for the provision of a more tax efficient benefit, such as a company car. The sacrifice is usually set up to benefit both parties; the employee’s liability to income tax and NIC is reduced, and the employer saves NIC on the salary sacrificed.
Given the current rates of income tax and NIC, low CO2 emitting company cars represent a tax efficient way for employers to remunerate staff, and can be particularly cost-effective when potential corporate discounts available to fleet operators are taken in to account.How does salary sacrifice work?
- The company offers its employees the option of a company car.
- The employee selects a vehicle, decides how many miles they will drive per annum, and how long they would like to keep the car.
- The company advises the employee how much salary they will have to sacrifice and outlines other terms and conditions of the agreement, which typically includes maintenance, insurance and Road Fund Licence.
- The employer arranges for the car to be delivered and the employee enjoys the use of a brand new car.
- The employee’s salary is reduced by the agreed amount and their tax code adjusted following notification to HM Revenue & Customs (HMRC).
Salary sacrifice has been used for many years in connection with pension contributions, childcare vouchers, home computer schemes and Bike2Work. Salary sacrifice for cars is a more recent addition to the employee reward package that offers the following benefits.
Employer benefits: Schemes are usually designed to be cost-neutral, the employer benefitting by being able to offer a very attractive option to employees that adds real value to their reward package, at no extra cost to the employer. But some employers may retain some of the savings available to offset unforeseeable charges.
- that offer a well run scheme can promote themselves to ‘employer of choice’ status and thereby enhance employee recruitment
- can maximise the ‘total reward value’ of their benefit package, thereby increasing employee motivation and enhancing staff retention rates
- can enhance their ‘green’ credentials as salary sacrifice works best for low CO2 emitting cars, and
- should, as participation grows, mitigate health and safety concerns, as employees will no longer use private vehicles for business but will instead drive newer, well maintained company cars
Employee benefits: The primary incentive for employees to participate is the tax efficiency of salary sacrifice which should deliver significant income tax and NIC savings.
Employees will also:-
- have access to a brand new, fully maintained car (as salary sacrifice works best for cars emitting low carbon dioxide, fuel costs will also be reduced);
- not have to pay a large deposit, borrow money or enter into a regulated, formal finance agreement; and
- enjoy the additional savings on offer from the corporate discounts available to their employer.
Dealing with the risks
Salary sacrifice offers considerable savings but employers should ensure they weigh the potential benefits against the potential risks and any additional costs. They should also understand the needs and motivations of their employees to ensure it is the right solution for them.
If the employer adopts a considered approach that involves consultation with all the stakeholders and detailed consideration of the following issues, the risks should be minimised and an efficient, effective and rewarding scheme developed.
Issues for employers to consider include:-
- what are we hoping to achieve by offering salary sacrifice for cars?
- who we will be offering salary sacrifice to?
- do we completely understand all of the risks and potential costs and, can we adequately plan to mitigate them?
- can we talk to an employer who is already successfully operating a salary sacrifice scheme?
- what are we looking for in a provider?
HMRC’s view of salary sacrifice
On the whole, provided the income tax and NIC is properly accounted for, HMRC is comfortable with salary sacrifice schemes and provides detailed guidance for employers on its website. HMRC will review documents and confirm whether a scheme is valid for PAYE and NIC purposes. However, if HMRC decide to undertake a review and feels that the arrangements are not correctly established and/or documented it could seek back-tax, interest and penalties.
Employers wishing to set up a scheme should also remember that HMRC could decide to amend the rules at any time, as it did with home computing schemes in 2006 when the income tax and NIC relief was withdrawn, and with the introduction of specific legislation relating to workplace canteen arrangements in 2011.
Employers should also be aware of Revenue & Customs Briefs 28/11 and 36/11 which relate to the application of output VAT to some salary sacrifice schemes; HMRC has confirmed that output VAT should not be applied to most salary sacrifice for car schemes because the recovery of input tax by employers will be blocked.