Paula Hargaden, senior associate at Burges Salmon LLP, asks what the government 'monitoring salary sacrifice schemes' really means
What is to be made of the summer Budget with the Chancellor stating twice that the government will ‘actively monitor the growth of salary sacrifice schemes’ and their effect on tax receipts?
There had been some concern that bad news might come out of the summer budget. In a time of cuts, it appears inevitable for the government to review any area where there might be a ‘leak' of tax receipts in order to plug it. There has also been concern about older workers using the new flexible access to pensions to ‘wash’ their salaries using salary sacrifice. Finally, HMRC even expresses concern about salary sacrifice in the context of the live consultation on changing the treatment of termination payments.
However, a focus on salary sacrifice is not new. At various points in the past HMRC have looked at attacking incorrect implementation and exemptions have been withdrawn or limited when the cost was perceived to be too significant (for example the removal of the Home Computer Initiative in 2006). In that sense little has changed, although the use of sacrifice grows and the range of benefits linked to such arrangements broadens.
One could interpret the recent statements as a sign the government has recognised it won’t be doing much about salary sacrifice in the medium term – or at least until there is some sign that the work involved is justified by the financial return to the country's coffers.
To understand the difficulty the government faces it is helpful to remember what salary sacrifice involves. Salary sacrifice is the swapping of salary for something which represents better value for the employee than simply cash. Tax savings may be a driver but actually in many cases an employee might be swapping salary for a benefit they value more (e.g. holiday) or that is cheaper than if it were purchased directly because of the employer’s ability to bulk buy. The sacrifice is effected by a variation of the employment contract before the individual is entitled to payment. Instead of being entitled to only salary they are now entitled to a reduced salary plus a form of non-cash benefit.
Looking at it another way, the sacrifice - that contractual variation - isn’t the problem here as an employer and an employee are free (within, of course, the limits set by employment and equality law) to set whatever combination of cash and benefits are acceptable to them as consideration for the employee’s work and loyalty.
The real issue is that the employment tax system gives beneficial treatment to certain non-cash benefits over cash salary. Sometimes this is due to a specific exemption or relief which is in line with policy objectives (childcare and the cycle to work scheme are obvious examples). Sometimes this is an effect of how the values used to calculate tax on benefits in kinds are determined, which doesn’t derive from policy objectives at all (e.g. the current structure of computer schemes).
Could the government legislate against salary sacrifice? As the outcome of salary sacrifice could be achieved without the sacrifice – by simply agreeing with employees on an annual basis the make up of their salary and benefits through a flexible ‘menu’ arrangement - it would require an interference in the freedom of employer and employee to make their bargain (as to the consideration for the employee’s service). Therefore, this seems unlikely.
To put it in a broader context - we are far from the time when non-cash benefits were merely ‘perks’ of the job, an extra cherry on the top signifying status. Non-cash benefits are now seen as a fundamental part of that bargain for employees of all levels and ages. Total reward statements blur the line which differentiated between salary and benefits even more, by associating values to non-cash benefits. Flexible benefit arrangements enable employees to tailor their packages to best suit themselves – a single twenty something may want a different package from a forty-something with a family. Salary sacrifice can help them achieve this.
That leaves tackling the underlying tax breaks by removing or limiting a specific exemption. Again there is precedent for this - the childcare exemption was limited for higher rate tax payers and HMRC have tinkered with their guidance around the cycle to work scheme. However, that still leaves all the other drivers to use such arrangements, tax based or otherwise.
Alternatively, the government could embark on a wholesale reformation of the benefits system so that benefits are taxed more consistently to match salary. Anyone wanting to get a sense of how big a job that is could look to the interim report from the Office of Tax Simplification following its review of employee benefits and expenses. The OTS, set up as an office of the Treasury to provide the government with independent advice on simplifying the tax system, provides in that report a good summary of the structural issues which trouble the employment tax regime.
Added to the mix are good arguments made by the industry that such schemes are positively impacting our economy by retaining employees, saving money for businesses recovering from recession, encouraging consumption and helping businesses achieve 'green' targets. In practice, salary sacrifice arrangements are put in place for excellent commercial reasons with tax efficiencies seen as an additional benefit rather than key driver. As such, it appears that doing anything more than ‘monitoring’ will take quite an effort; one which, right now, doesn’t appear to be worth the returns.