Workplace pensions can provide more than a way to put money aside for retirement. Tax relief and employer contributions can substantially increase the amount invested compared with the employee’s personal cost.
For employers, getting the payroll and pension treatment right is equally important. Contribution calculations, tax relief and salary sacrifice arrangements all need to be operated correctly.
How minimum contributions work
Where automatic enrolment applies, contributions are paid into a workplace pension on each payday.
For schemes using the statutory qualifying earnings basis, the minimum total contribution is normally 8%, including at least 3% from the employer. The balance is commonly described as a 5% employee contribution, although the amount deducted from take-home pay may differ depending on how tax relief is provided.
Some employers contribute more than the statutory minimum or calculate contributions using a broader definition of pensionable pay.
Net pay or relief at source?
The two main tax-relief methods work differently:
- Net pay arrangement: Employee contributions are deducted from gross pay before Income Tax is calculated. Tax relief is therefore normally given automatically at the employee’s applicable marginal rate.
- Relief at source: Contributions are deducted from net pay. The pension provider normally claims basic-rate tax relief from HMRC and adds it to the pension fund. Subject to eligibility, an £80 payment would usually become a £100 gross contribution.
Higher or additional-rate taxpayers using relief at source may need to claim further relief through Self Assessment or directly from HMRC. Scottish taxpayers may have different rates and claim requirements.
Employees should check which method their scheme uses rather than assuming that all workplace pensions operate in the same way.
What about salary sacrifice?
Under salary sacrifice, an employee agrees to reduce contractual cash salary in exchange for an employer pension contribution. Where the arrangement meets the relevant requirements, this can reduce Income Tax and National Insurance contributions.
Salary sacrifice cannot reduce cash earnings below the applicable minimum wage. A reduction in contractual salary may also affect certain salary-related calculations, so employees should review the terms before agreeing to a change.
Before opting out
Opting out can mean losing:
- employer pension contributions;
- available tax relief;
- potential National Insurance savings under salary sacrifice; and
- future investment growth on those amounts.
The right decision depends on personal circumstances, but the full value of the pension package should be considered, not just the deduction shown on a payslip.
Bottom line
Workplace pension tax relief can be valuable, but the result depends on the scheme’s contribution basis, tax-relief method and payroll arrangements. Employers should ensure that pension deductions are calculated correctly, while employees should understand the employer contribution and tax support available before making changes.
This article provides general information and is not personalised tax, pension or investment advice.
How Naylor Accountancy Services can support you
Naylor Accountancy Services can help employers review the payroll treatment of workplace pension deductions, understand the accounting and cash-flow implications of employer contributions, and maintain clear payroll records. Where pension or regulated financial advice is required, an appropriately authorised adviser should also be consulted.
Main office: 01892 807 001
Chichester office: 01243 776088
Bourne End office: 01628 530805
Email: [email protected]
F. Verification sources
https://www.gov.uk/workplace-pensions/what-you-your-employer-and-the-government-pay
https://www.gov.uk/tax-on-your-private-pension/pension-tax-relief
https://www.gov.uk/guidance/salary-sacrifice-and-the-effects-on-paye
The Pensions Regulator: Contributions and funding
https://www.gov.uk/national-minimum-wage-rates
https://www.gov.uk/guidance/income-tax-relief-for-employees-who-use-net-pay-pension-schemes
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Published by The NAS News Team
