Earlier this month, a reader wrote to me with a question that may look puzzling at first glance. In the previous tax year, they contributed to both their self-invested personal pension (Sipp), for which they now needed to claim tax relief, and to the workplace pension offered by their employer through a salary sacrifice arrangement. When completing their tax return, they were surprised to find out that salary sacrifice appeared to be much better value for money.
If you are a higher-rate taxpayer, at the 40 per cent income tax rate, you need to earn £166.67 gross to make £100 net. With salary sacrifice, the full £166.67 goes straight into your pension. But if you take £100 net and make a contribution to your Sipp, you get £25 tax relief into the account and can claim a further £25 from HMRC in your tax return, for a total of just £50.
It is well known that with salary sacrifice you save on tax because you do not pay national insurance (NI) on the contributions. But the odd part is that these calculations focus on income tax, and leave NI out of the equation. If you are an additional-rate taxpayer, the figures change slightly but the same principles apply.