Salary Sacrifice - A no brainer?

Ballard · 10 March 2018 at 12:13PM

I started a new job last summer and the pension contributions started immediately. My employer pays 10% and will match up to 7.5% of anything that I contribute. I have been paying the additional 7.5% since then. As a consequence I'm getting 25% paid into my pension on a monthly basis.

I do have the option to increase or decrease my sacrifice and as I understand it I can pay up to 40% into the pot and avoid paying tax and NI on this portion. This has made me think that the thing to do for the upcoming year would be to sacrifice 22.5% which along with my employers 17.5% would give bring me to the 40% limit (it would actually still be below my 40% limit as not all of my salary is pensionable)

Some pertinent points:

My job security hasn't been great in recent years so I've saved in excess of a year's gross salary in cash. My prospects currently look good so I'm now looking to my retirement.

I'm a higher rate tax payer but well under £100k so my 40% won't be £40k.

I'm 49 and have a ball park retirement age of 62 but that's very much a flexible figure at this point.

I live well within my means and probably wouldn't dip into my savings a great deal.

The pension is trust based and operated by Standard Life. I have no idea whether or not this is relevant.

As I see it the upside is that (roughly) for every £50 of my take home pay I sacrifice I'll get £100 added to my pension pot. The downside is that I can't access that pot for many years. Before I commit to putting this amount into my pension I want to make sure that I'm not missing something.

I'm not keen on putting too much financial information on the forum but I hope that I've given sufficient for the purposes of my question.

Thanks.

FatherAbraham · 10 March 2018 at 12:39PM

Ballard wrote: »

As I see it the upside is that (roughly) for every £50 of my take home pay I sacrifice I'll get £100 added to my pension pot. The downside is that I can't access that pot for many years. Before I commit to putting this amount into my pension I want to make sure that I'm not missing something.

£50 in take-home is different to £100 in a pension fund. The money in a pension fund hasn't been income-taxed yet.

You'd do better to compare £50 in your pocket now with £100 taxed at 75% of your likely tax rate in retirement. We use 75% to account for the 25% tax-free benefit at commencement of taking the pension.

More simply, if you'll have a top tax rate of 20% in retirement, then your £100 in the pension fund is really only £85 in your pocket.

At 40% in retirement, then it's only £70 in your pocket.

Quoting gross pension-contribution figures is the sort of misleading stuff which salesfolk love to do. There are certainly tax advantages to pension-based investing, but they shouldn't be overestimated.

Warmest regards,
FA

Ballard · 10 March 2018 at 1:03PM

That's very interesting, FA, and exactly the sort of answer that I was looking for. I'm still of a mind to sacrifice the additional funds as I need to diversify from cash but you've given me something to ponder over the next couple of weeks.

crv1963 · 10 March 2018 at 1:04PM

Hi Ballard

I will be in a similar situation later this year when I retire from my current post, take my DB Pension and start agency work, I went through our figures and for us Salary Sacrifice to lower my income at 40% is worth doing. Although I wont be able to completely avoid some tax at 40% my thinking is reduce paying as much at 40% as I can.

As long as you can live how you want with the reduced income and have a reserve (which you say you have at a years gross salary saved) and are comfortable with where your pension monies are then yes it is a no brainer. I would check two things- are your pension contributions going into a fund that is at a risk level you are comfortable with? and can you access them at a time you want to and if you cannot access them when you want to can you transfer them out to another scheme or SIPP where you can? If your scheme cannot be accessed before SPA or transferred out you may want to look at saving into a different place, but check first.

CRV

starkiwi26 · 10 March 2018 at 1:12PM

As a thumb of rule (not 100% accurate, because some income/benefit is taxable but not NIable, but this rule is good enough for reference):
Taxable income between £11.5k - £45k are taxed and NIed at 32%
Taxable income between £45k - £150k are taxed and NIed at 42%

As you are at higher tax band,
therefore any £1 you sacrifice on your take home income, give you value of £1.72 of pension. This is not including your employer's subsidy.

If I were you, I have less concern on tax rate when pension withdrawal. When you reach the pension age (age 55 and above), you can withdraw 25% of your pension tax free. But please note, once you start to withdraw pension fund, the tax free salary sacrifice pension contribution rule change! If you still continue to contribute to pension after first withdrawal, some of your pension contribution will be taxable (currently pension contribution is max £40k/year and 100% tax free). So, think twice before you make any pension withdraw if you are still working and making pension contribution as your employer's 17.5% subsidy is very generous!!

Short answer to you, yes, your calculation is correct, my answer above match your calculation. Is this no-brainer? Yes & No. Yes, because this is 70% profit the moment you put to the pension and No, because this is a loophole the government purposely and intentionally leave it open, to encourage ordinary people likes you and me to escape tax by saving to the pension pot. I am much younger than you, this mean I have to wait decades before I can touch the pension pot, but I am happy to drink less beers and put more money to pension contribution instead.

If my answer above clarifies your doubt, please click the "Thank you" button. I learned a lot from fellow MSE members here, it is time to contribute back. :beer::beer:

Ballard · 10 March 2018 at 2:31PM

Thanks to all of you for your thoughtful replies. I'm still very much leaning towards increasing to the total 40% even after considering the tax implications upon drawing a salary. I have online access to my pension pot and can change the plan should I not be happy with it.

My plan would be not to touch the pot until retirement but obviously things can easily change in the minimum 13 years until I get to retire.

I'm due a bonus in the next few weeks (definitely this tax year) and have sacrificed that I have no idea how much that'll be but I've been warned that bonuses aren't generally great at this place so it's not going to take me over the 40%. My employer boosts this by 5% as their NI liability will be lower.

Oh blimey... Something else has popped into my head... Depending on the size of the bonus maybe I'd be better off sacrificing that every year for the 5% extra and sacrificing perhaps 32% monthly.

atush · 10 March 2018 at 3:29PM

You'd do better to compare £50 in your pocket now with £100 taxed at 75% of your likely tax rate in retirement.

Not strictly true. As the OP wants to retire at 62, they will have a PA that wont be used by SP so therefore, a tranche of the 75% withdrawn each year will also be tax free.

With SS, if you can afford to pay more in, I would.

FatherAbraham · 10 March 2018 at 3:48PM

Ballard wrote: »

As I see it the upside is that (roughly) for every £50 of my take home pay I sacrifice I'll get £100 added to my pension pot. The downside is that I can't access that pot for many years. Before I commit to putting this amount into my pension I want to make sure that I'm not missing something.

This is a tangential point, which may not interest you, so feel free to ignore it...

However, in some sense, one needs to provide for one's retirement. Even if the funds one has set aside for this aren't "locked up" in a pension fund, they are, conceptually, "fettered assets" -- if one spends them on something else, they won't be available for generating retirement income.

Maintaining the "option" to access one's retirement funds (by keeping those funds in non-pension arrangements) carries costs (taxation of income today, rather than deferring to the poorer future; National Insurance contributions; accessibility for one's creditors in the case of financial difficulties), and exercising that option is likely to damage one's future self.

Fettered assets -- even when they look accessible, they're not really (not without great cost).

Warmest regards,
FA

Alexland · 10 March 2018 at 3:57PM

It's true to maintain your living standards in retirement you need to put money aside anyway so even if it was easily accessable you wouldn't want to access it.

Ps welcome back to the forum FA it's been a while.

michaels · 10 March 2018 at 3:58PM

1 Is the 40% limit set by your employer for sal sac? Legal limit of pension contributions is annaul allowance, 40k (plus carryforward from unused previous years) plus must earn at least NLW per hour.
2 Even if employer limit is 40% you can make personal contributions up to the annual allowance (min wage no longer comes into play), reducing below higher rate threshold may have advantages with regard to interest on your savings
3 Many employers as well as matching may share the employers ni that they save on your sal sac pension contributions, they save 13.8%.

4 As mentioned absolute lock up perid is just until you are 55 subject to drawdown ar this point curtailling future contributions

Ballard · 10 March 2018 at 4:46PM

michaels wrote: »

1 Is the 40% limit set by your employer for sal sac? Legal limit of pension contributions is annaul allowance, 40k (plus carryforward from unused previous years) plus must earn at least NLW per hour.
2 Even if employer limit is 40% you can make personal contributions up to the annual allowance (min wage no longer comes into play), reducing below higher rate threshold may have advantages with regard to interest on your savings
3 Many employers as well as matching may share the employers ni that they save on your sal sac pension contributions, they save 13.8%.

4 As mentioned absolute lock up perid is just until you are 55 subject to drawdown ar this point curtailling future contributions

To the best of my (admittedly fairly limited) knowledge, contributions above 40% (or £40k) do not attract the same tax benefits so would be significantly less appealing. Additionally I don't want to reduce my take home pay too much as the idea of working a month without a half decent deposit into my bank account would be hard to take.

There's no mention of my employer passing on any of their NI benefit but being as they will match 7.5% I see this as reasonable.

As you say, at worst case scenario I can withdraw cash from 55 but this isn't a consideration at this point.

Salary Sacrifice - A no brainer?

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