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Did you know that giving up some of your salary can make some people “better off”? It’s an odd reality of the UK tax system, and it catches many people out. However, by understanding some of these quirks, you can use them to your financial advantage.
Below, our Carlisle financial planners focus on a specific example – salary sacrifice. We explain how it works, the potential benefits and trade-offs, and tips for integrating it into a wider financial plan. We hope these insights are helpful. Please contact us to discuss your own goals and plan.
What is salary sacrifice?
Salary sacrifice involves going to your employer and asking for a salary reduction. In exchange, they offer you certain “non-cash benefits” that are valuable to you.
Sometimes also called “salary exchange”, salary sacrifice can be a beneficial formal agreement for you and your employer. This is because the exchange occurs before income tax and NI (National Insurance) are applied.
For instance, suppose you earn £30,000 per year and decide to give up £3,000 of your gross pay via salary sacrifice. Not only do you get certain non-cash perks in exchange, but you also save on income tax and NI. In real terms, you might be better off.
Depending on the arrangement, you might also get a bigger contribution to your pension.
What can I use for salary sacrifice?
HMRC has cracked down on some types of non-cash perks that people were using under salary sacrifice, believing they were being abused to avoid tax.
However, there are legitimate ways to use it that follow the letter (and spirit) of the rules. Here is a list of prominent benefits that are still eligible for full tax and NI exemptions in 2025:
- Pension contributions
- Ultra-low emission vehicle leasing
- Cycle-to-work schemes
- Employer-supported childcare
Using salary sacrifice with pensions can be a very effective way to boost your retirement funds and save on tax. Here is a simplified example showing how this works:
You earn a gross salary of £50,000. Normally, you put 5% into your pension via auto-enrolment, taking your take-home pay down to £37,519.60 (after factoring in PAYE and your NI bill). When your employer’s 3% contribution is added to your own, the total contribution is £4,000.
In this case, the NI bill for your employer would also be £5,644.20.
However, suppose you decide to use salary sacrifice to lower your pay to £47,500 a year (i.e. a 5% reduction). The total pension contribution remains at £4,000, representing the £2,500 employee sacrifice and the £1,500 employer contribution.
When all contributions and tax deductions are factored in, your take-home pay is £37,719.60. In other words, a £200 increase. Your employer also saves £345 in NI.
Not Just for Pensions
Salary sacrifice is most commonly associated with workplace pension contributions. However, the scheme has evolved, and employers in 2025 may offer a range of benefits through salary sacrifice arrangements, including:
- Electric Vehicle (EV) leasing: Salary sacrifice can make electric car leasing much cheaper by offsetting it against gross salary and benefiting from low Benefit-in-Kind (BiK) tax rates.
- Cycle to Work schemes: These encourage sustainable commuting with tax savings on bikes and gear.
- Childcare vouchers / Tax-Free Childcare: Though closed to new entrants since 2018, some employees still benefit from this historic scheme.
- Additional annual leave: In some organisations, employees can purchase extra holiday entitlement via salary sacrifice.
Who should consider salary sacrifice?
Many people stand to benefit from salary sacrifice, but it is not a one-size-fits-all. There are specific cases that make it attractive for those seeking to make tax or National Insurance (NI) savings. However, in other cases, salary sacrifice could create more problems than it solves.
So, who might benefit? If you’re earning over £50,270 (the higher-rate band) or £125,140 (the additional-rate band), salary sacrifice can be particularly effective. For those earning over £100,000, it can even offer a means to restore their tax-free personal allowance, which is tapered by £1 for every £2 earned over this threshold.
Those nearing retirement age may see value in using salary sacrifice to top up their pensions tax-efficiently in their final working years.
Some employers sweeten the deal by passing on their own National Insurance savings (15%) back to employees. If your employer is proactive in offering and managing such schemes, it significantly increases their value.
However, salary sacrifice is not suitable for everyone. If sacrificing part of your salary brings your income close to or below the National Minimum Wage (NMW), employers are not allowed to process it.
Some state benefits are linked to your earnings level. As such, if you reduce your official gross salary, be careful not to inadvertently reduce your entitlement to State Pension credits, maternity pay, or child benefit.
In short, if you’re planning to take maternity leave, receive tax credits or rely on earnings-based benefits shortly, salary sacrifice needs extra caution and financial advice.
Invitation
We hope this content gave you more clarity. To discuss your own financial plan, please get in touch to arrange a free, no-commitment consultation with an adviser here in Cumbria.
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