Pension tax reform featured heavily in pre-Budget speculation, with suggestions that the Chancellor might revisit tax-free cash, scale back higher-rate tax relief and overhaul pensions tax allowances. As it turns out, the government has chosen a narrower path. The one change expected is going ahead – the government will be clamping down on the National Insurance (NI) advantages of salary sacrifice, a shift that will have real implications for employers and employees.
A £2,000 cap from April 2029
From April 2029, employees will only be able to make up to £2,000 per tax year of pension contributions via salary sacrifice without paying employee NI. Salary sacrifice contributions paid above £2,000 will be treated as ordinary earnings for NI purposes and subject to employer and employee National Insurance Contributions (NICs). Employer contributions not paid through salary sacrifice will still not be subject to NICs.
This marks a significant shift from the current position, where employees can sacrifice any amount of their salary into their pension without triggering NI, subject to limitations such as the requirement not to reduce salary below the National Minimum Wage. For many employers, the NI savings generated by salary sacrifice have been a key element of their reward strategy and, from 2029, those advantages will be significantly eroded for employees contributing above the cap.
HMRC had previously explored more radical reforms, including removing all NI advantages or even taxing salary-sacrificed contributions as income. Against that backdrop, a cap at £2,000 might appear to be the most moderate version of those proposals. However, employer reaction during that consultation period also made clear that even a modest cap could reduce the perceived value of pension saving and constrain reward design.
Who is likely to feel the impact?
Data from the Office for National Statistics suggests that around 30% of private sector employees make use of salary sacrifice, with higher-earning and higher-contributing employees most likely to be affected. For some employees, a typical percentage contribution may sit below £2,000 per year. For many, the loss of NI relief above the cap will be meaningful. Importantly, early analysis suggests that most of the additional NI burden will fall on employers, particularly at higher salary levels. For some employers, the cost impact could be broadly equivalent to an uplift in employer NI.
Although the change does not take effect until 2029, employers should consider how this will interact with their current arrangements and workforce planning. Areas to begin thinking about include:
- identifying who in the workforce currently pays salary sacrifice contributions above £2,000 per year;
- modelling the financial impact for both employer and employee (including the impact on their take-home pay);
- the interaction with the minimum contributions required under the auto-enrolment regime;
- reviewing whether the current benefits structure remains competitive and attractive to staff; and
- planning communications to ensure employees understand how the change will affect take-home pay and pension outcomes.
Further detail is still to come, particularly on how payroll systems will need to record NI-able vs NI-free sacrifice.
What hasn’t changed?
Despite extensive speculation ahead of the Budget, none of the wider pension tax framework has been altered. Pension tax relief continues unchanged, there are no adjustments to the annual or lifetime allowances and the 25% tax-free lump sum remains in place.
What’s next?
Employers operating salary sacrifice schemes should monitor developments closely, particularly where scheme design, contracts or payroll systems may need revision. The change may also influence employee saving behaviour. If individuals reduce their contributions once the NI advantage is removed, this could have long-term implications for retirement adequacy, particularly for higher earners who currently make substantial voluntary contributions.
If you would like support reviewing your salary sacrifice arrangements or planning for the 2029 changes, our Pensions team would be happy to help.
