After working hard to increase your income, the idea of giving some of it up might seem illogical. You may assume that sacrificing your pay would leave you worse off.
However, “salary sacrifice” offers a practical way to bolster your retirement fund and manage your tax bill through tax-efficient pension contributions.
However, in the 2025 Autumn Budget, the chancellor, Rachel Reeves, announced changes to how salary sacrifice pension contributions will be treated for National Insurance (NI) purposes.
Indeed, a new cap will take effect from April 2029, limiting the NI-exempt portion of pension contributions made through salary sacrifice to £2,000 a year.
Continue reading to discover how the new salary sacrifice cap could affect you and whether the scheme is still a practical way to save for retirement.
Salary sacrifice is a government initiative that offers non-cash benefits
Before considering the new cap, it’s important to understand exactly how salary sacrifice works.
Put simply, it is a government-backed scheme that allows you to exchange part of your salary for non-cash benefits, provided both you and your employer agree. These benefits can include:
- Gym memberships
- Healthcare
- Financial protection
- A company car.
One of the more common uses of salary sacrifice is pension saving.
Instead of making pension contributions from your take-home pay, you can agree to a reduction in your salary. Then, your employer pays the equivalent amount directly into your pension.
While some salary sacrifice benefits are taxed as “benefits in kind”, pension contributions are typically exempt from Income Tax and NI.
There are other notable advantages, too. For instance, if a pay rise pushes you into a higher tax band, you could instead direct part of that increase into your pension.
If your income rises above £50,270, you may start paying higher-rate tax. So, reducing your salary through pension contributions could bring your taxable income back below the threshold, all while increasing your retirement savings.
Please do not act based on anything you might read in this article. All contents are based on our understanding of HMRC legislation, which is subject to change.
A pension is a long-term investment not normally accessible until 55 (57 from April 2028). The fund value may fluctuate and can go down, which would have an impact on the level of pension benefits available. Past performance is not a reliable indicator of future performance.
Workplace pensions are regulated by The Pensions Regulator.
There are some important considerations of salary sacrifice to keep in mind
While salary sacrifice can help you boost your pension, it’s vital to consider that it comes with its drawbacks.
For example, a lower gross salary could affect your borrowing capacity for a mortgage, as lenders base your affordability on your income.
Also, since the sacrificed could go to your pension, you typically can’t access this until you reach retirement age.
This lack of access means that if you require money in the future, you won’t have the flexibility to access wealth tied up in your retirement fund.
This is why it’s vital to speak to a financial planner before entering a salary sacrifice arrangement with your employer.
The government has proposed a new cap on tax-efficient contributions through salary sacrifice
Under the current rules, pension contributions made through salary sacrifice are typically exempt from NI.
However, this will all change from April 2029.
From then on, only the first £2,000 of your pension contributions each year will be exempt from NI. For employees paying Class 1 NI, these rates are:
- 8% on earnings between £12,570 (the Personal Allowance) and £50,270
- 2% on earnings above £50,270.
As a result, the impact of the cap will depend on how much you earn and how much you contribute to your pension through salary sacrifice. Sky News gives a helpful example of this.
If you earn £40,000 a year and contribute the minimum 5% to your pension, you would sacrifice £2,000. This is still within the cap, meaning you wouldn’t pay NI on these contributions.
But if you increased your contributions to 6%, you would have sacrificed £2,400. This would exceed the £2,000 cap by £400, resulting in an NI charge of £32.
Now, imagine you earned £50,270, the maximum for basic-rate tax. A 5% contribution would come to £2,513.50, exceeding the cap by £513.50 and increasing your NI bill by £41.08.
Meanwhile, if you earn £105,000 and sacrifice £10,000 towards your pension, £8,000 would sit above the £2,000 cap. As a higher-rate taxpayer, this would result in an NI charge of £160.
It might still be prudent to review your pension saving strategy
While the new cap might increase your NI bill, salary sacrifice can still be an effective way to build your retirement fund.
You would continue to benefit from Income Tax relief on pension contributions, while employer contributions could further bolster the value of your fund.
These long-term benefits could outweigh the additional NI costs once that cap comes into effect in April 2029.
Still, the changes do make forward planning more critical than before.
For example, it might be sensible to review your salary sacrifice arrangements well in advance, giving you time to assess your contributions and consider how they fit into your financial plan.
A financial planner could help you here. We can:
- Review your pension saving strategy
- Assess the effects the new cap might have on your finances
- Help you make the most of other allowances.
While salary sacrifice may be changing, it can still support your long-term retirement plans, especially with a professional guiding you.
Please email us at info@investmentsense.co.uk or call 0115 933 8433 to find out more about how we could help you.
Please note
This article is for general information only and does not constitute advice. The information is aimed at individuals only.
All information is correct at the time of writing and is subject to change in the future.
Please do not act based on anything you might read in this article. All contents are based on our understanding of HMRC legislation, which is subject to change.
