Rachel Reeves has announced that salary-sacrificed pension contributions above an annual figure of £2,000 are to be subject to national insurance charges.
The move, which comes into effect in April 2029, is expected to raise more than £4bn in that financial year.
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The chancellor said the move was a “pragmatic step” that would protect those on low and middle incomes.
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Salary sacrifice schemes for pensions are an arrangement by which employees can chose to give up a portion of their salary in exchange for their employer paying an equivalent amount into their pension.
The part of the salary that is given up is currently not subject to income tax or national insurance as it is taken out of a worker’s gross salary before the taxes are calculated.
The schemes also benefit employers, who do not have to pay national insurance on the amount sacrificed by the employee.
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Some employers also choose to add this saving to their employee’s pension.
But under the new changes, contributions above £2,000 will be treated as ordinary employee pension contributions, and will therefore be subject to both employer and employee national insurance contributions.
The chancellor told the Commons that salary sacrifice for pensions was due to “treble in cost from £2.8bn in 2017 to £8bn by 2030”.
She said the “greatest benefit” was going to “higher earners or to those in the financial services sector putting their bonuses into pensions tax-free, while those on the minimum wage or whose employers don’t offer salary sacrifice don’t benefit at all”.
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Ms Reeves said: “This is not sustainable for the public finances, putting pressure on the tax everyone else pays, and so I am introducing a £2,000 cap on salary sacrifice into a pension with contributions above that taxed in the same way as other employee pension contributions.”
She added: “That is a pragmatic step so that people, especially on low and middle incomes, can continue to use salary sacrifice for their pension without paying any more tax than they do now. And to give individuals and employers time to adjust to these new arrangements, these changes will come into effect in 2029.”
The changes were outlined in a document written by the Office for Budget Responsibility (OBR) and released in error ahead of Ms Reeves’ speech.
The document said: “The policy results in an increase in NICs (national insurance contributions), which is estimated to raise £4.7bn in 2029/30 and £2.6bn in 2030/31.
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“The costing assumes that, in most cases, employee pension contributions above £2,000 that were part of a salary-sacrifice scheme will become subject to employer and employee NICs, either because they move to a standard pension scheme or continue in a salary-sacrifice scheme under the new tax arrangements.”
The Society of Pensions Professionals (SPP) said around a third of private sector employees use a salary-sacrifice arrangement, compared with almost 10% of public sector workers.
It said that while there was a £4bn cost to the government in providing salary sacrifice arrangements – £1.2bn for employees and £2.9bn for employers – there was also “widespread recognition that this is a positive investment that incentivises pension saving”.
The SPP said the change would affect basic rate taxpayers more than higher rate taxpayers because the main rate of national insurance contributions is 8% for employees, but only 2% on incomes above £50,270.
Steve Hitchiner, chair of the tax group at the SPP, said: “Abolishing salary sacrifice for pensions will affect the take-home pay of millions of employees – especially basic rate taxpayers – and is a tax on working people, in spirit if not in name. It is also another sizeable cost to employers and, perhaps most importantly, its removal will reduce pension saving.”
