In April, the rate of employers’ National Insurance contributions (NICs) increased from 13.8% to 15%, and the threshold at which employers pay it was reduced from £9,100 to £5,000 per annum.
These changes mean that companies will face significantly higher costs and will most likely be forced to consider ways to cut expenditure.
Businesses – especially SMEs – are already being pushed to their limits, with volatile markets, political uncertainty and growing costs. They already face increased pressure to adapt while trying to avoid taking excessive measures in cost cutting such as pay or hiring freezes or, worse, role reductions.
There are, however, ways for businesses to save money and benefit employees without having to resort to cost-cutting measures. One way is via a salary exchange scheme – where an employee can lower their income tax liability by reducing their gross salary. This means employees can potentially save money on their tax bill by accessing non-cash benefits such as workplace pension contributions, Cycle to Work schemes, and ULEV leasing schemes.
But there isn’t as much take-up as expected – research by Workplace Pensions Direct suggested that 44% of British businesses don’t leverage the benefits of salary exchange for pensions. Of that number, 23% put it down to a lack of perceived benefit to employees.
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The scheme seems to be massively overlooked both by employers and employees, and this is largely due to misconceptions about the benefit for both parties. For workers, on the face of it, the idea of taking a pay cut may elicit an instinctive reaction and the lack of knowledge on how it works may mean people don’t understand the advantages.
Research last year found that misconceptions around salary exchange schemes are high, with 34% of employees believing opting in to said schemes would result in less take-home pay. On top of that, 12% believed the schemes were only for higher earners.
£100 contribution for £80
That isn’t the case at all. Employees can actually profit by taking a salary cut this way. By using salary exchange, it costs employees less to have the same amount invested into their pension. For example, a £100 contribution into their workplace pension without salary exchange would cost the member £80.
By using salary exchange, the same £100 contribution only costs a basic-rate taxpayer £72, or £58 in respect of a higher-rate taxpayer, once tax and employee National Insurance relief is taken into account. This is a great way for basic-rate taxpayers to instantly increase their money, or more.
Salary exchange also simplifies obtaining higher-rate tax relief on pension contributions. English and Welsh higher- and additional-rate taxpayers can get their investment increased by up to 62% too, without having to go through the HMRC self-assessment process.
Scots can save even more: a Scot earning £125,140 pa would save a staggering 67% in tax and National Insurance on some pension contributions, with all higher earners saving up to 50% in tax and National Insurance on their contributions!
It’s also employers and businesses who will receive financial benefits, as the more the employee contributes, the more the employer will save on their NICs.
For example, assuming the average employee contribution is 5%, then under the new National Insurance rates, a business with a total salary roll of £39.5m annually could save roughly £300,000 pa from April 2025. In comparison, if the average contributions from employees are 4%, that same company will only make £237,000 pa in National Insurance savings.
Many employers also believe that the whole scheme is too complicated. But processes like addendums to contracts and wet signatures aren’t needed for employees to sign up to the scheme.
With salary exchange schemes, the employer doesn’t need to get prior written consent for the arrangement to go ahead.
Other myths to bust
Employers must merely clearly communicate what’s happening, letting staff know the scheme’s start date and giving eligible employees sufficient time to opt out. This can be done via a simple letter.
There are other myths to bust too – mortgage affordability is improved, not worsened. The view that a lower taxable salary means a lower ability to repay a loan is an incomplete and old-fashioned picture.
Salary exchange allows staff to save money compared to the same or lower contribution being made via Relief at Source or Net Pay arrangements. This can improve their disposable income, and as the eligibility for a loan is usually calculated by reference to their affordability, using salary exchange can help, not hinder, mortgage applications.
In a world full of volatility, it’s important businesses can find ways to save money without resorting to drastic measures. To achieve this, however, patience and clear communication between employers and employees are needed.
SMEs need to embrace these schemes and be upfront with employees about what they offer and the total benefits in real terms.
In the wake of April’s National Insurance hikes, we will wait to see how businesses adapt to the extra costs, but salary exchange schemes must be a consideration.
Todd Rowlands is deputy CEO of Titan Wealth Planning
