Salary Sacrifice – The Beginning Of The End?

August 2010

A recent European Court of Justice (ECJ) decision may hasten the demise of the once much loved salary sacrifice scheme.

In the case of Astra Zeneca UK v HMRC the ECJ has ruled that (most) benefits provided to employees under salary sacrifice schemes are VATable. Whilst salary sacrifice schemes were once enormously popular, enabling savings on NICs and numerous tax and pension benefits, this case seems to be the latest disincentive for employers to continue to operate such schemes.

In the case in point Astra Zeneca operated a remuneration package which included a flexible benefit scheme – enabling employees to select their preferred benefits from a list of options in return for sacrificing a proportion of their salary. Amongst the benefits offered were retail vouchers to be used in selected shops. The advantage of the vouchers to employees was that in return for a £10 voucher a lesser amount was deducted from their salary.

Astra Zeneca claimed reimbursement from HMRC for the input VAT which it incurred when buying the retail vouchers. However, HMRC rejected the claim – asserting that Astra Zeneca had to pay VAT in respect of retain vouchers purchased if they were supplied to employees as part of their remuneration under the salary sacrifice scheme. The ECJ agreed with HMRC in its finding that the provision of the retail vouchers to employees constitutes a supply of services for consideration and is therefore VATable.

In recent years salary sacrifice arrangements have been used by numerous employers to pass on tax and other benefits to employees. The most recent high profile example being the cycle to work scheme whereby employees are able to buy bikes at a substantial discount via a cycle to work scheme operated by their employer. Clearly in light of the Astra Zeneca case the VAT implications of such schemes are yet another reason why employers will find them less and less attractive. Other disincentives include;

  • Maternity Leave – A number of issues have come to light in relation to the impact of salary sacrifice schemes where employees are on maternity leave and in receipt of maternity pay rather than usual remuneration.

During any period of maternity leave an employer is obliged to maintain pension contributions. However, the treatment of any employee contribution varies dramatically, depending whether such contribution is made by salary sacrifice or by salary deduction. If an employee’s pension contribution is made as a “deduction from salary” the employer remains able to require the employee to contribute the appropriate percentage of her maternity pay in order to qualify for the employer contribution as normal. For example an employee that normally has 5% of salary deducted to benefit from a 5% employer contribution may still be required to contribute 5% of maternity pay. However, under current legislation, and in accordance with guidance from HMRC, if the contribution is made by the employee under a salary sacrifice scheme the employer cannot require the employee to contribute and, as the employer must maintain the benefit, the employer is required to pay the employee contribution on top of the usual employer contribution.

  • A similar issue arises in relation to the provision of childcare vouchers by way of salary sacrifice. If salary is sacrificed in return for childcare vouchers, during any period of maternity leave the employer must still fund the childcare vouchers but cannot require the employee to sacrifice a proportion of her maternity pay to cover the cost of providing the vouchers.

  • Upper Earnings Limit – A bonus or salary sacrifice which reduces the remuneration package below the upper earnings limit (currently £844 each week) may have an impact on state benefits, for example state pension. Salary sacrifice arrangements must not reduce wages below the national minimum wage.

  • Tax Credits – Care needs to be taken if salary is sacrificed in return for benefits such as childcare vouchers as the receipt of these may affect the level of any tax credits.