The £2,000 cap on National Insurance (NI) free salary sacrifice pension contributions was sold as a tax on high earners but, if you look closer, the opposite is true.
In fact, the people most exposed are middle-income savers and the small businesses that employ them. For the so-called “squeezed middle”, it is yet another quiet hit to take.
Why do the rules adversely affect middle-earners?
From April 2029, salary sacrifice tax relief will continue to be available, but only the first £2,000 of employee pension contributions each year will be free of NI.
Anything above that becomes liable to NI for both the employee and the employer and the full adverse effect is clear once the different rates of NI are accounted for.
If a person’s total pension contributions are modest, say up to six per cent, those individuals who earn between £35,000 and £50,270 will pay an eight per cent NI charge on pension contributions above the £2,000 cap.
By contrast, an individual whose earnings already exceed the upper earnings limit of £50,270 will pay employee NI at just two per cent on those same excess contributions.
This imbalance in the NI system means that those on lower incomes could pay four times the NI rate on their pension savings in excess of the new threshold than the highest earners pay.
How does this change affect employers’ National Insurance bills?
Many employers currently share their own NI savings by topping up staff pensions, but a new 15 per cent employer NI charge on contributions above the cap makes those top-ups unaffordable for a lot of firms.
As a result, some employees could see the overall efficiency of their pension saving above the cap fall by as much as 23 per cent once lost top-ups are counted.
Even those who stay below the threshold are not safe, as the Office for Budget Responsibility (OBR) estimates that around 76 per cent of higher employer costs are eventually passed back to staff through weaker pay rises and trimmed benefits.
Don’t wait for the change
The good news is that there is time to plan, as the rules do not take effect until April 2029, which leaves room to act while current allowances still apply.
If you are a middle earner, this is exactly the moment to review your pension strategy, weigh up complementary options such as ISAs and make sure your retirement plans stay on track.
To talk through what the salary sacrifice cap means for you, please get in touch with our team.
