Everybody knows that the pension tax-relief system is heavily weighted in favour of the have’s who get big income tax incentives. It is weighted against the low waged who can get excluded from contribution incentives altogether.
Steve Webb, who thinks about these things, has announced he’d like to see even those on minimum wage, being able to participate in some of the tax and NI saving activities of those who earn more than him.
I’m not an actuary, and I’m getting some experts to run a check on these numbers (which may change when they have) but here’s the Pension Plowman’s stab at how salary sacrifice (some call it salary exchange) could work for the low paid.
An employee is on minimum wage of £7.50 an hour working 40 hours a week. Weekly pay = £300 so annual pay is £15,600. This person will be auto-enrolled and pay basic rate tax.
The employee pays 12% employee NI on earnings above £157 a week so 12% of (£300 – £157) = £17.16 a week.
In addition the employer pays 13.8% NI on these same earnings.
If they could pay pension contributions of say £10 a week by salary sacrifice they would save £1.20 in NI (and still get tax relief) and the employer might share some of its NI saving,
So a minimum of a 12% effective uplift for the employee , simply by sharing the saving 100% of the NI saved on his/her earnings, a maximum of nearly 26% uplift if the employer savings are shared.
The minimum wage dilemma
So why don’t salary sacrifice/exchange schemes operate for those on minimum wage?
I asked the question to payroll’s answer to Martin Lewis – Kate Upcraft and this – is -what – she -said!
No problem for us to administer – we simply reduce gross pay but it’s illegal to reduce gross pay below NMW and given the amount of unpleasant and damaging publicity about NMW non compliance at the moment, including the sleep in debate I can’t see the law changing
I had to look up “sleep in debate” – I thought that this was an all-nighter at the House of Commons- but it’s about carers who sleep at their client’s house in case something happens in the night (and get paid for attendance).
Kate’s substantive point is that the Conservative Party wouldn’t risk annoying other parties by allowing people to choose how they had their minimum wage paid to them.
Salary sacrifice is not something that happens to you like auto-enrolment, it’s not done on an opt-out, you have to opt-in to salary sacrifice, and you’d only opt-in to something, if you thought it was good for you.
Earning between 12% and 26.8% uplift on your pension contributions looks like good news. I’d choose that if there were no downside. I could try and construct a downside to pension salary sacrifice -SS (as opposed to the same contributions being made with SS) but I’d be struggling.
Denying people on minimum wage the opportunity to get more paid into their pension pot seems perverse. The Labour opposition should join with Steve Webb in calling for this practice to be allowed. Kate Upcraft has no practical objections and I’m sure she’ll join with Steve Webb in campaigning for a better deal for those on the minimum wage.
So do I.
The net pay dilemma (pt 94)
When the history of HMRC and the Treasury’s pension policy comes to be written, the net-pay scandal will be writ in black type as one of its darkest hours,
How can 300,000 people be auto-enrolled into workplace pensions on a promise of a 3% contribution from the boss and a 1% top-up from the Government, only to be told that the 1% never turned up because their employer used the wrong kind of pension contribution? It makes special pleading about the wrong kind of snow look rational!
HMRC continue to pass the buck to tPR who pass it back to HMRC (this actually happened last week in front of a live audience at Reward Strategy.
Then everyone blames operators (of DC trusts) for not moving to relief at source and nothing happens. In April 2018, the minimum contributions that will not get Government incentives double, by April 2019 they will have doubled again. NOTHING is happening – NOTHING.
Salary sacrifice +NET PAY 1+1 =3 ?
John picked up the comment which appears in later editions. He writes my words better than I can – so I hope you don’t mind me quoting myself directly from Corporate Adviser!
First Actuarial director Henry Tapper says: “Many of those on low earnings are not only unable to exchange salary for pensions, but unable to get the Government Incentive – basic rate tax relief – because they are in net pay schemes.
“Salary sacrifice/exchange gets round the net pay problem as all employees are treated equally – whether RAS or net-pay, tax-payers or below the income tax threshold.
“I would suggest that if it we were to make it easier for employers to offer salary-sacrifice to the low paid, we might go a great way to solving the net-pay problem.”
I was partly thinking of the (up to) 26.8% NI kicker – which mitigates the loss of the Government Incentive.
But I was also thinking that as soon as you get people thinking about the social consequences of denying the minimum waged the right to the NI kickers, you think about the Net-Pay scandal.
Pension tax credits
I am no expert on the HMRC’s capabilities but sorting this out does not look impossible. , It strikes me that anyone who chooses to sacrifice below minimum wage is special, if only for choosing to have a notional salary below minimum wage. Can we not make that election a trigger for special treatment that puts money into people’s wage packet by way of a tax kicker from HMRC. For every pound sacrificed , could not HMRC put 20p onto the wage? Could we call this a pension tax credit?
Once you are sacrificing salary, the differences between RAS and net-pay are irrelevant. Everyone who sacrifices salary for pension in the nil-rate band should have the Government incentive of 20p in the pound paid on top of net salary as a pension tax credit.
I hope I am not being fanciful. The double impact of an NI kicker into the pension and a pension tax credit could incentivise pension contributions to the low-paid to the kind of levels enjoyed by the high-paid.
Though a word of caution has been uttered by Thomas Coughlan in his comment on this article
This might help low earners, but it wouldn’t help really low earners. If salary below the NI primary / secondary threshold (£8,164 per annum) is reduced there is zero benefit. So, whilst eliminating the NMW barrier might help those earning between £8,164 and about £14,500 (annualised NMW), it wouldn’t help those earning less than this.
This coupled with no income tax benefit via salary exchange for those earning less than £11,500, and I’m not sure getting rid of the NMW barrier would be that beneficial. Much better for low earners to pay to relief-at-source personal pension and get 20% income tax relief.
All this is food for thought for employers operating net-pay schemes. If I were running a net-pay scheme I’d be putting the risk of a class action from low-paid employers on my risk register. That’s when they find out just how much they are losing out on at the moment (both from being denied the NI and the tax incentives that are available to others).
There seems to be some social justice here. There seems to be some commercial risk-management too. But most of all, there is an opportunity here to get the low-paid to a point where they have decent sized pension pots – a whole lot quicker.t
Whether tweaking the rules for a workplace pension is the answer, whether LISA is the answer or whether there is merit in Alan Chaplin’s suggestion , I don’t know.
Looked at the Help to Save scheme today – https://www.gov.uk/government/publications/help-to-save-what-it-is-and-who-its-for/the-help-to-save-scheme.
Looks better than pension to me for anyone eligible… For those eligible but unable to afford maximum contributions, maybe employer can top up instead of paying pension contributions. At the end of the saving period, take the money and put into pension and get another 25% “bonus” in tax relief??
One thing’s for sure, something had better change about the way we deal with low paid worker’s pension rights and the incentives attaching.