Bonus Sacrifice

With bonus season well and truly upon us, we thought we would look at the advantages of sacrificing some or all of the bonus in return for an employer’s pension contribution.

This article focuses on bonus sacrifice but the word ‘bonus’ can be replaced by ‘salary’.

What is Bonus Sacrifice

Bonus sacrifice is an agreement between an employee and their employer whereby the employee agrees to exchange part of their gross (before tax) bonus in return for a non-cash benefit such as a pension contribution.

Reducing the bonus or sacrificing it entirely results in a saving in individual income tax and employer National Insurance Contributions (NICs).

We’ll now have a look at a case study to see how bonus sacrifice works in practice.

Case Study

Jennifer works at an investment bank in London and earns a salary of £100,000 this tax year and is due to earn a bonus of £15,000. At this level of total earnings, Jennifer will lose £7,500 of her Personal Allowance.

Jennifer’s employer has agreed to participate in a bonus sacrifice arrangement and also to pass on all of their NIC savings to Jennifer.

Let’s look at Jennifer’s take home pay if she takes the £15,000 bonus:

Jennifer

Salary & bonus £115,000

Less Income Tax £36,432

Less employee NICs £6,179

Take home pay £72,389

Let’s now look at Jennifer’s take home pay if she sacrifices the £15,000 bonus:

Salary & bonus £100,000

Less Income Tax £27,432

Less employee NICs £5,879

Take home pay £66,689

By ‘sacrificing’ her bonus, Jennifer has missed out on £5,700 of additional take home pay. However, her employer has paid £17,070 into her pension at no additional cost as we shall now demonstrate.

Firstly, let’s look at the cost to Jennifer’s employer of paying her salary and bonus:

Jennifer’s Employer

Salary & bonus £115,000

Plus employer pension £0

Plus employer NICs £14,650

Total Cost £129,650

Now let’s look at the cost to the employer of paying Jennifer her salary but instead of the bonus, paying the equivalent amount of £15,000 into her pension in addition to the £2,070 of employer NICs saved.

Salary & bonus £100,000

Plus employer pension £17,070

Plus employer NICs £12,580

Total Cost £129,650

In this case study, by giving up £5,700 of take home pay, Jennifer has received almost three times that amount into her pension at no additional cost to her employer.

Next Tax Year

From 6th April 2022 to 5th April 2023 both employee and employer NICs will go up by 1.25% to be spent on the NHS, health and social care. This may make bonus / salary sacrifice more attractive next year.

Any Disadvantages?

It is important to note that the bonus (or salary) is being given up in return for a pension contribution. Jennifer would have to wait until age 55, which is the current minimum pension age, to access her pension although this will increase to age 57 from 6th April 2028.

Jennifer would also need to take into account that some employee benefits are linked to salary and/ or bonuses. For example, a Death in Service Scheme or Income Protection.

If Jennifer were considering taking out a mortgage, the income multiple may be impacted by bonus (or salary) sacrifice.

For those high earners that are subject to the tapered annual allowance, any new bonus / salary sacrifice arrangements will be added back in when calculating ‘threshold income’.

Conclusion

Bonus sacrifice can be a useful and tax efficient way of boosting your retirement fund.

If you would like to consider bonus or salary sacrifice, please do contact us.