Changes limiting the tax benefit of some salary sacrifice and wider ‘optional remuneration’ arrangements were introduced from 6 April 2017. Employers should urgently consider how these changes affect their reward packages as previously tax effective arrangements may now be taxable.
Background: salary sacrifice
- Salary sacrifice is an arrangement where employees agree to forego a part of their salary in exchange for a benefit provided by their employer. To be a valid salary sacrifice:
- The employee must sacrifice future salary before it has been paid or accrued;
- Once sacrificed, that salary cannot be paid at a future date;
- The sacrifice must be for a ‘permanent’ period (usually at least six months, except for certain benefits such as pensions and childcare vouchers which the agreement can vary by pay period);and
- The employee’s pay, taking into account the salary sacrifice, must be above the National Minimum Wage/National Living Wage.
An effective salary sacrifice means that the employee pays tax and National Insurance contributions (NICs) on the lower salary and the employer makes an employer NIC saving. Tax/NICs may still be due in respect of the benefit provided, but where the benefit is taxed at a lower rate or is exempt from tax and/or NICs, savings can be generated for the employee and employer. For example, an employee sacrificing salary in favour of employer-funded gym membership will pay tax on the gym membership and the employer will pay Class 1A NICs on the benefit; but as employer-funded gym membership is not liable to employee’s NICs, the employee could save up to 12% in NICs.
The government has been concerned about the cost of salary sacrifice arrangements for some years, and has now taken action to restrict the tax/NIC benefits in certain cases. Existing rules already restricted the tax advantages for workplace canteens and travel and subsistence payments operated via salary sacrifice.
What is optional remuneration?
The new rules refer to ‘optional remuneration’ arrangements. These are wider than the traditional salary sacrifice arrangements outlined above, and include any future arrangements where employees agree to be provided with a benefit rather than the salary equivalent. This is of particular relevance to salary negotiations for new employees or where employees are promoted – for example employees being offered the choice of a company car or a cash allowance on joining a business.
New tax charge
The new optional remuneration arrangements (OpRA) provisions make no changes to the underlying salary sacrifice principle, but do change how the benefit is taxed. Where a salary sacrifice agreement is entered into or modified after 5 April 2017 all benefits provided under that agreement will be taxed at the higher of the standard benefit in kind value valuation (usually the cost to the employer except for certain benefits) or the salary sacrificed. There are only a few exceptions, where the previous treatment continues:
- Pension contributions
- Employer-funded pensions advice
- Cycle to work schemes
- Childcare vouchers
- Low emission cars.
For many common benefits provided under salary sacrifice, such as gym membership, insurance and vouchers, there will be no change as a result of the new legislation, as the amount sacrificed typically is equal to the value of the benefit. Furthermore as these benefits are valued based on the cost to the employer, there may still be a clear benefit to employees where their employer has secured a purchasing discount.
The OpRA provisions are therefore of greatest significance for the provision of benefits via salary sacrifice which were previously tax free – such as car parking, mobile phones and workplace training.
The recently published guidance from HM Revenue & Customs (HMRC) confirms that the OpRA legislation will apply to salary sacrifice in favour of top up to the mileage payments where the employer pays at a rate below the authorised mileage allowance payment rate of 45p per mile. This previously resulted in a tax and NIC saving.
What is outside the rules?
Although the new rules are wide-ranging, not all employee benefits are caught. As well as the specific exclusions listed above, the following will not be affected:
Benefits not provided as part of a salary sacrifice/optional remuneration agreement. These will continue to be taxed under the general rules relating to benefits in kind.
Agreements to alter salary in exchange for intangible benefits such as additional holiday or flexible working.
Situations where an employee is offered a cash allowance or a benefit, and chooses the cash allowance. The new rules are only concerned with the value of benefits received under optional remuneration agreements; where an employee chooses a cash allowance the cash amount will, as now, form part of their earnings for tax purposes.
The new charge in practice
The tax due under the OpRA legislation will be collected via the P11D process. Whilst the tax charge will arise when the arrangement is entered into, the employer will in most cases have until 6 July following the end of the tax year (the P11D submission deadline) to establish the appropriate value.
Employers should however be mindful that HMRC is also making changes to the way in which it collects PAYE tax due where an employee’s benefits change: valuing benefits early (and providing that information to employees) may help to spread the tax impact more efficiently.
Salary sacrifice arrangements in place before 6 April 2017 will come within the new rules with effect from 6 April 2018, except employer-provided accommodation, company cars and school fees for employees of a fee-paying school. These benefits will not be taxable until 6 April 2021. Arrangements covered by these transitional provisions will lose that protection if the arrangements are altered before 6 April 2021 and/or the benefit provided changes – for example, a different car is provided (unless it is a direct replacement for a car that is damaged).
For school fees, the transitional provisions will apply, even if there is an increase in the salary sacrifice, provided that the employment is with the same employer and the salary sacrifice is in respect of the same child at the same school (moving from junior to senior school within the same overall school is considered to be the same school for these purposes).
Points to consider
The new OpRA legislation does not mean that salary sacrifice is no longer effective and for pension contributions (the most common salary sacrifice benefit), the tax/NIC advantages remain. For many other popular benefits such as cycle to work, childcare vouchers, green cars, gym membership, insurance and retail vouchers there will also be no change.
However, employers must be mindful of the new OpRA provisions when providing benefits such as car parking and mobile phones. Employers must also give due consideration to the new legislation when negotiating employee pay and benefits packages. Salary sacrifice arrangements often form part of flexible remuneration schemes intended to increase employee engagement and satisfaction. Where benefits are caught by the new rules, employers should also ensure that they consider how to communicate the changes to ensure that this positive effect is not undermined by an unexpected tax charge.
For advice regarding any of the issues raised here, please do not hesitate to contact your usual Saffery Champness partner.