Salary Sacrifice Explained — How It Saves You Tax and NI
Salary sacrifice is one of the most effective ways to boost your pension and reduce your tax bill at the same time. By giving up part of your gross salary before deductions, you pay less income tax and less National Insurance — meaning more money goes into your pension for less net cost.
How Salary Sacrifice Works
Instead of receiving your full salary and then making a pension contribution, you agree with your employer to receive a lower salary — and your employer pays the equivalent amount directly into your pension. Because your taxable salary is reduced:
- You pay less income tax (20%, 40% or 45% depending on your band)
- You pay less employee National Insurance (8% or 2%)
- Your employer also pays less employer NI (13.8%) — many pass this saving to your pension too
Salary Sacrifice vs Standard Pension Contribution
| Method | Gross Contribution | Tax Saved | NI Saved | Net Cost (20% taxpayer) |
|---|---|---|---|---|
| Salary Sacrifice | £100 | £20 | £8 | £72 |
| Standard contribution (net pay) | £80 (after 20% relief) | £20 (via relief) | £0 | £80 |
Salary sacrifice saves an additional £8 per £100 contributed for basic-rate taxpayers (NI saving). For higher-rate taxpayers the NI saving is smaller (2%), but the tax saving is larger (40%).
Worked Example: £2,400/year Pension Sacrifice
Salary: £35,000 — Basic Rate Taxpayer
- Annual pension sacrifice: £2,400 (£200/month)
- Income tax saving (20%): £480/year
- Employee NI saving (8%): £192/year
- Total employee saving: £672/year
- Net cost to take-home: £2,400 − £672 = £1,728/year (£144/month)
- Employer NI saving (13.8%): £331/year — often passed to pension
Other Salary Sacrifice Uses
- Cycle to Work: Save up to 42% on a bike and safety equipment, spread over 12 months
- Electric Vehicle (company car): Significant savings on benefit-in-kind tax vs traditional company cars
- Technology: Laptops, phones, and equipment under employer schemes
- Childcare Vouchers: Legacy scheme closed to new entrants, but existing members can continue
- Holiday trading: Some employers allow buying/selling annual leave via salary sacrifice
Potential Downsides
- Lower contractual salary — could affect mortgage applications or benefits entitlement
- Reduced death-in-service benefit — if linked to salary multiples
- Maternity/paternity pay — SMP/SPP is calculated on your average weekly earnings, which could be lower
- Cannot reduce below minimum wage — your employer must ensure the sacrifice doesn't breach this
Calculate With and Without Salary Sacrifice