Pension: Jordan Gillies share tips on planning and investing
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The agreement involves people voluntarily lowering their wage to avoid paying taxes on it. This means that their employer can pay the full amount – including what would otherwise have been taxed – into their employee’s pension.
An agreement like this is called “salary exchange” and many are unaware of it even though it could boost their pension by thousands of pounds.
It is sometimes also referred to, misleadingly, as salary sacrifice.
Keith Humphrey, CEO of Workplace Pensions Direct, has set the record straight and made clear that there is no “sacrifice” involved in an agreement like this.
“There is only upside”, he said.
“For a 30-year-old planning to retire at the age of 68 and earning an average of £29,600 a year the difference this can make is in excess of £30,500 over their life.
15 million Britons are currently missing out on 30k pension boost (Image: Getty)
“The way it works is if an employee earning £20,000 a year agrees to reduce their salary to £19,000, so cutting it by £1,000, their employer can take that and pay an additional £1,000 into their pension plan.
“The impact of this is that the employer no longer pays National Insurance contributions on that £1,000, so it can be redirected into the pension.”
Mr Humphrey says this can add £204 to employee’s pensions every year.
He notes that this can sound like small change for a lot of hassle but certainly the accumulated rewards of this over a lifetime can amount to a large sum.
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Indeed, he says, more agreements like this are “badly needed” as there is no cost involved for either employer or employee.
Research conducted by Workplace Pensions Direct and YouGov has shown that only half of British businesses are utilising this strategy, meaning that as many as 15 million people are missing out.
“In this situation I believe the employer has a moral responsibility to help their employee in any way they can, if they don’t then I fear for future generations,” Mr Humphrey said.
“Add to this the fact that forecasted returns on pensions have fallen – meaning that workers must now contribute 50 percent more to achieve the same predicted pay out compared to a decade ago.”
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There is much to be positive about in the data available, however, as it shows that “50 percent of British businesses are being extremely savvy when it comes to salary exchange for pensions”.
The data also showed a generational disparity in terms of taking advantage of salary exchange, as 60 percent of financial decision-makers under-35 are rolling out a scheme compared to only 41 percent of over-55s.
“By entering into this you could increase pension contribution by 0.5 to one percent of your salary – why wouldn’t you do that? There’s really no reason not to.”
While many employers perceive a lack of clear financial benefit from the salary exchange tactic, Workplace Pensions Direct has been using it to make a big difference to businesses.
They recently helped a 52 person-strong construction firm save £9,200 a year and a business services company with 525 employees has recorded annual savings of £58,000.
Such schemes have clear benefits even in the short term which only snowball in the long run, all without costing employers a penny.
Business take-up of this strategy differs regionally and across industries, with hospitality business faring the worst, reflecting the precarious and short-term nature of the work involved, Mr Humphrey speculated.
Business size is also a factor with many bigger businesses making better use of salary sacrifice than others.
Mr Humphrey said this is an “employment perk” that shouldn’t be overlooked. Businesses can stand out to employees by offering a scheme like this which gives big benefits over people’s lifetimes.