Salary Sacrifice for Pensions: How it works and what it saves

Business owners all over the UK know the cost of hiring and retaining great people has risen, and it’s not getting any cheaper.

Employer National Insurance (NI) rose from 13.8% to 15% in April 2025. To make matters worse, the point at which employers start paying fell from £175 a week (*around £9,100 a year) to £96 a week (£5,000 a year). These rates apply for 2025/26 and 2026/27, with employer NI charged at 15% above £5,000 a year.

What this means is that recruitment and retention decisions must be planned extra carefully, and they should also consider more than just salary offers and pay rises.

Businesses of all sizes across the UK are using salary sacrifice to support this, particularly for pension contributions. It’s not just large companies either; some firms with as few as 6-9 staff are adopting it.

In this blog, I’ll outline why.

How does salary sacrifice work for pensions?

Salary sacrifice is when an employee agrees to give up a portion of their gross salary in exchange for a non-cash benefit from their employer. For pensions, the employer pays the sacrificed amount directly into the employee's pension.

This is where salary sacrifice for pensions gets interesting: Because the sacrificed amount is no longer earnings, neither the employee or employer have to pay National Insurance on it, and it doesn’t count towards student loan repayments either.

In terms of income tax, pension contributions already receive tax relief, but with salary sacrifice that relief is built in automatically, because the money goes into the pension before tax is calculated.

The name “salary sacrifice” can often put people off, because it sounds like money is being lost or given up. Some firms opt to call it “salary exchange” to offset this impression.

Salary sacrifice is a change to an employee’s contract of employment, so it must be agreed in writing before it takes effect.

What do employees save with salary sacrifice for pension?

Through salary sacrifice for pension contributions, employees save 8% NI on sacrificed pay between £12,570 and £50,270, and 2%above £50,270.

For Plan 2 student loan holders, repayments are calculated at 9% of earnings above the £29,385 threshold. Salary sacrifice does not have to take pay below the threshold to create a saving: every £1 of sacrificed pay that would otherwise have been above the threshold reduces the repayment by 9p. If the sacrifice takes pay below £29,385, no Plan 2 repayment is due, although there is no additional student loan saving on the portion of sacrificed pay below the threshold. Thresholds differ for other plans.

There can be additional benefits for employees close to key tax thresholds too. Reducing taxable pay through pension contributions may help someone avoid moving into the higher-rate tax bracket, and for higher earner sit may also help reduce or avoid the High Income Child Benefit Charge.

Illustrative example

Let’s say an employee earns a £32,000 salary with 5%sacrificed. This would save the employee around £120-£150 a year, or £150-£300if they have a student loan.

_{Please note, these figures are illustrative only. They assume 5% of total salary and full-year membership to the scheme. The £45k row is useful later on to show the effect of the 2029 cap.}

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What the business saves through salary sacrifice

Salary sacrifice for pensions doesn’t just benefit the employee, but the business too. Through a salary sacrifice scheme, employers save 15% National Insurance on every pound that is sacrificed.

This applies to earnings above £5,000. The actual cash saving depends on the employer’s use of the Employment Allowance. If the allowance does not already cover the employer’s full NI bill, salary sacrifice can reduce the amount of NI the business pays. The employer can then choose to pass some or all of that saving on by increasing its pension contribution for the employee. If the allowance already covers the full NI bill, salary sacrifice may reduce the NI calculated but not the amount actually paid, so there may be no cash saving to pass on. There’s no saving on most under-21s or apprentices under 25 either, as their employer NI is already 0%.

This works out at around £240 a year per employee on a £32,000 salary. To provide an example scenario, a business with 7-9 staff could save between £1,600 and £2,100 a year, whereas firms with 30-50 staff could save several thousand more a year.

Illustrative example: Employer saving by headcount

_{Please note, these figures are illustrative only.}

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What to look out for with salary sacrifice

When considering a salary sacrifice scheme for pensions, there are some important factors that you will need to consider to prevent issues for both your own business, and your employees.

• Salary sacrifice can't take cash pay below the National Minimum Wage. That's currently £12.71 an hour for workers aged 21 and over.
• Staff who can't use salary sacrifice because of National Minimum Wage limits can still pay into the pension normally. They won't save NI, and how they get tax relief depends on your scheme, so check with your provider.
• Anyone earning less than £12,570 gets little to no employee NI savings.
• Salary sacrifice can reduce statutory payments like maternity pay. If it takes average earnings below the lower earnings limit, they can potentially lose entitlement altogether.
• During paid family leave, such as maternity, employers must keep paying pension contributions based on the pre-sacrifice salary.
• Many mortgage lenders will assess affordability on pre-sacrifice pay if the employer confirms the arrangement in a letter, but employees should be advised to mention it to their broker/lender early.
• Staff shouldn't be able to switch back to full salary whenever they like, or HMRC may treat the arrangement as ineffective. Most schemes allow changes once a year or after major life events, such as marriage or pregnancy.

Salary sacrifice is changing in 2029

The November 2025 budget announced that, from April 2029, only the first £2,000 a year per employee can be sacrificed without paying NI. Sacrificed amounts above £2,000 will attract both employee and employer NI, while the income tax relief will remain in place.

In the example tables earlier in this blog, the £25k and £32k employees are not affected, but the £45k employee’s NI saving would shrink slightly (from £180 to £160), and the employer’s from £337.50 to £300.

How to set up salary sacrifice for pensions

1. Calculate the savings for your team. Pension providers, such as Penfold (who we use ourselves at Gravitate) can often provide a calculator. This is a really useful way to get employee buy-in.
2. Explain how it works to staff, clearly and transparently. We recommend running a short but informative education session, such as a webinar or team document/video.
3. Agree the contract change in writing. A short email variation with template wording isn’t enough.
4. Update payroll and pension contributions via your Payroll provider from the agreed start date. This can’t be backdated.

For new businesses, the easiest time to set all of this up is actually right at the start. Changing an existing business scheme is a little trickier, but should still be straightforward, provided it is planned and communicated effectively via a reputable payroll service.

Our friends at Penfold, who also provide our workplace pension at Gravitate, have built a free pension health check tool that you can try right now to assess how well set up your current workplace pension is.

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Sources

• ‍Gravitate & Penfold client webinar
• HM Treasury: Autumn Budget 2024, overview of tax legislation and rates
• HMRC: Rates and thresholds for employers 2026 to 2027 (NI, student loans, National Minimum Wage).
• HMRC: Salary sacrifice and the effects on PAYE.
• HMRC Employment Income Manual EIM42767: right to revert to original salary.
• HM Treasury: Budget 2025 (section 3.2, salary sacrifice pension contributions).

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