Budget 2025: What are salary sacrifice schemes and how could the rules change?
Reports suggest Wednesday’s Budget could include a significant tax overhaul targeting salary sacrifice schemes, leading to fears that some people’s retirement savings could be at risk.
Here we take a look at how salary sacrifice schemes for pensions work and what could be in Rachel Reeves’ Budget.
What are the salary sacrifice plans?
Salary sacrifice programs allow individuals to replace part of their earnings with an employer-provided benefit.
Often integrated into retirement plans, this system offers a tax-efficient way for employees to increase their retirement savings.
When contributing in this way, the employer deposits the entire amount, including its own contribution, directly into the employee’s retirement fund.
What did the reports suggest?
There are reports of a potential ceiling for people sacrificing wages while receiving a £2,000 annual tax cut, but some reports suggest the restrictions could go further.
What are the benefits of salary sacrifice programs?
Salary sacrifice allows people to maintain their take-home pay while having to pay lower national insurance (NI) contributions.
There are also NI benefits for employers that help them offer more generous workplace benefits.
Are there any downsides to salary sacrifice for retirement savers?
A lower salary on paper may affect some borrowing practices, such as mortgages.
However, employers may maintain a “reference salary” that can be taken into account.
What could the rollback of salary sacrifice schemes mean for people and businesses?
Reducing the use of schemes will mean more government revenue; some reports suggest between £2bn and £4bn could potentially be raised, depending on how salary sacrifice is avoided.
But the Association of British Insurers (ABI) and leading pension providers are urging Chancellor Rachel Reeves not to take such a step, pointing out that the next generation of retirees are already at risk of being poorer than the current retired population.
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Organizations in the pensions industry have warned this could mean people and employers cutting back on the amounts going into their pensions, piling up pension savers’ problems and putting further cost pressure on businesses.
The ABI and the Rewards and Employee Benefits Association (REBA) warned such a move would place additional burdens on businesses and push millions of people into lower retirement rates.
Yvonne Braun, ABI’s policy director for long-term savings, said on Saturday: “The industry has long warned that we were ‘sleepwalking’ into the pensions crisis.
“If the government continues with its proposals to impose a cap on salary sacrifice, then we are no longer sleepwalking, we are walking fast.”
What problems already exist?
Many people are thought to be heading into a financially challenging retirement and face a sharp decline in their standard of living when they stop working.
While auto-enrolment has driven millions of people to save for retirement, there are fears that too many workers are not saving enough to provide themselves with a comfortable retirement.
Workers saving for retirement today often take risks on how much money they will have in retirement, depending on factors such as how much they and their employers contribute and investment performance.
Pensions, which promise savers a salary-based payment in retirement, have become much less common in the private sector, putting the burden on individual savers.
Cost of living squeezes in recent years have also affected people’s ability to save for retirement.
It was claimed that stopping salary sacrifice in such an environment would worsen the situation. Workers are already seeing their wages squeezed by frozen income tax thresholds, pushing people into higher tax brackets.
Leaving aside the issue of salary sacrifice, what will be the income of current retirees?
The pensions of around 13 million pensioners are expected to rise faster than inflation next April due to the triple lock used to calculate state pension increases.
Under the triple lock guarantee, the state pension increases each April by the Consumer Price Index (CPI) inflation in September of the previous year or 2.5 percent, whichever is higher of the total earnings increase from May to July of the previous year.
The 4.8 per cent increase expected next year (in line with wages) means people receiving the full new state pension could receive £241.30 a week, or around £12,548 a year.
Those receiving the full basic state pension could see their weekly payments rise to around £184.90.
Many retirees do not receive their full state pension.
Steven Cameron, Aegon pensions director, said: “Although welcome, this increase brings pain for years to come. “Under the triple lock, the entire state pension will rise by at least 2.5 per cent in future years, meaning it will be at least £12,861 in 2027/28.
“This is on top of the personal allowance of £12,570 which is frozen until April 2028, with speculation of an extended freeze until 2030.”
He added: “Those with only a state pension could face receiving letters from the taxpayer demanding they pay the tax debt.”
