Salary Sacrifice Explained
You contractually give up part of your gross salary, and your employer pays that amount directly into your pension as an employer contribution. The result: a lower official salary — and a lower tax and National Insurance bill.
Why does it save more than a normal pension?
A standard workplace pension (net pay arrangement) takes your contribution from your gross pay before income tax is calculated. This means you get income tax relief on every pound you contribute — but your National Insurance is calculated on your original gross salary, so NI is unaffected.
With salary sacrifice, your contractual salary is reduced before both income tax and National Insurance are calculated. That means:
- You pay less income tax (20%, 40%, or 45% depending on your band).
- You pay less employee National Insurance (8% up to the upper earnings limit, 2% above it).
- Your employer also pays less employer NI (13.8%) — and many employers pass this saving on to you as an extra pension contribution.
A worked example
Suppose you earn £50,000 and want to put 5% (£2,500) per year into your pension. You are a basic-rate taxpayer, so income tax relief is 20% and NI is 8%.
Normal Pension (Net Pay)
Net cost to you: £2,000 (pension pot: £2,500)
Salary Sacrifice
Net cost to you: £1,800 (pension pot: £2,500)
Higher-rate taxpayers save even more: income tax relief at 40% plus 8% NI means a £2,500 sacrifice costs only £1,300 in take-home pay, while the pension pot still receives the full £2,500 (before any employer top-up).
Things to watch
Mortgage applications
Lenders assess affordability based on your contractual salary. Because salary sacrifice reduces your official gross pay, you may be offered a smaller mortgage than you would on a higher stated salary. Check with your lender before committing to a large sacrifice.
Statutory pay
Statutory Maternity Pay, Statutory Paternity Pay, Statutory Sick Pay, and similar benefits are calculated from your reduced salary — not what you earned before the sacrifice. This can lower your entitlement.
National Living / Minimum Wage
Your reduced salary must still be at or above the National Living Wage. Employers are not permitted to use salary sacrifice to take you below the minimum wage.
Employer NI saving
Your employer saves 13.8% NI on the sacrificed amount too. Some employers pass this back to you as an additional pension contribution — worth asking about, as it can add hundreds of pounds a year to your pot for free.
Is it the same as a normal pension contribution?
Both salary sacrifice and a net pay arrangement take money from your pre-tax gross pay before income tax is calculated. The money lands in your pension pot in the same way. The key difference is at the NI level:
| Net Pay Arrangement | Salary Sacrifice | |
|---|---|---|
| Income tax relief | Yes | Yes |
| Employee NI relief | No | Yes |
| Employer NI relief | No | Yes (employer keeps it) |
| Contractual salary reduced | No | Yes |
| Affects statutory pay | No | Potentially |
Relief at source (used by personal pensions and some NEST schemes) works differently again: you contribute from your net (after-tax) pay, and the pension provider claims basic-rate tax relief back from HMRC, adding it to your pot. Higher-rate taxpayers need to claim the extra relief via self-assessment.
Model it with your numbers
The salary calculator lets you toggle between salary sacrifice and net pay arrangement, and shows you the exact take-home difference in real time.
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