How Does Salary Sacrifice Work? A Guide for Employers and Employees

How does salary sacrifice work? In short, an employee gives up part of their gross pay and the employer provides a benefit worth the same amount, usually a pension contribution. Because tax and National Insurance are worked out on the lower salary, both sides can save money. It is one of the most common employee benefits in the UK, but it comes with rules that HR teams and employees both need to understand before signing up.

This guide explains how salary sacrifice works, what it can be used for, the savings it creates, the drawbacks to check and the change to pension salary sacrifice that starts in April 2029.

What is salary sacrifice?

Salary sacrifice, sometimes called salary exchange, is a formal agreement to reduce an employee's contractual cash pay in return for a non-cash benefit from their employer. It is not a payroll deduction that the employee can switch on and off like a subscription. The employment contract itself changes, which is why the savings are recognised for tax and National Insurance.

The benefit can be a pension contribution, a bicycle through a cycle-to-work scheme, an electric car or workplace childcare. Pension contributions are by far the most common use.

How does salary sacrifice work, step by step

1. The employer offers a scheme. It decides which benefits are available and how much employees can give up.
2. The employee agrees to the change. Both sides sign an amendment to the employment contract that lowers the employee's gross salary by an agreed amount.
3. Payroll processes the lower salary. Income Tax and National Insurance are calculated on the reduced figure, so the employee pays less of both.
4. The employer provides the benefit. For a pension, the sacrificed amount is paid into the employee's pension as an employer contribution.
5. The arrangement runs for an agreed period. It usually continues until the employee leaves or a permitted change is made, often at a set review date or after a life event.

Here is a simple illustration using 2026/27 rates. An employee on £30,000 sacrifices £100 a month, or £1,200 a year, into their pension. They save £240 in Income Tax at 20% and £96 in employee National Insurance at 8%, so the £1,200 pension contribution costs them about £864 in take-home pay. Their employer also saves roughly £180 in employer National Insurance at 15%, and may choose to pay some or all of that into the pension as well. The figures change with salary, tax band and scheme, so a salary sacrifice calculator is the quickest way to see the effect on a specific pay packet before anyone agrees to a contract change.

What can employees sacrifice salary for?

1. Pension contributions: the most popular option, and the one where National Insurance savings are most valuable.
2. Cycle to work: employees get a bike and equipment through the employer and repay through reduced salary.
3. Electric cars: a lease paid through salary sacrifice, with a low taxable benefit in kind charge for zero-emission vehicles.
4. Workplace childcare: support provided through the employer, subject to the scheme's rules.

Many other perks, such as gym membership or technology, can be offered through salary sacrifice too, but they are usually taxed as a benefit in kind, so they bring little or no tax advantage.

Benefits for employees and employers

For employees:

1. Less Income Tax and National Insurance on the sacrificed amount.
2. A larger pension contribution for the same reduction in take-home pay.
3. Access to benefits such as an electric car at a lower net cost.

For employers:

1. Lower employer National Insurance, currently 15%, on the amount sacrificed.
2. Savings that can be kept, passed on to employees or split between both.
3. A benefit that helps with attracting and keeping staff without increasing headline pay.

Disadvantages and things to check first

Salary sacrifice is not right for everyone. Because the gross salary on paper is lower, a few things can be affected:

1. Mortgage applications: some lenders assess affordability on the reduced salary, so borrowing capacity may be lower.
2. Statutory payments: statutory maternity, paternity and sick pay can be calculated on the lower salary.
3. Salary-linked benefits: life cover, overtime rates and future pay rises may be based on contractual pay, so check how your employer calculates them.
4. National Minimum Wage: cash pay after the sacrifice cannot fall below the National Minimum Wage or National Living Wage.
5. Flexibility: an agreement is a contract change, so employees usually cannot stop or restart it whenever they like.

What employers need to put in place

Employers have a few obligations when running a scheme. The contract change must be agreed and recorded in writing, payroll must be set up to process the reduced salary, and payslips should show the arrangement clearly. Automatic enrolment duties still apply to pension schemes, and employees should be told what the arrangement means for their pay and benefits. GOV.UK guidance on salary sacrifice for employers sets out how the arrangements are treated for PAYE, and many employers take advice from their payroll provider or pension adviser before launching a scheme.

What changes in April 2029

From 6 April 2029, the National Insurance exemption on pension contributions made through salary sacrifice will be capped at £2,000 per employee per year. Contributions above that amount will attract employee and employer National Insurance, although Income Tax relief on pension contributions is unchanged. The cap was announced in the 2025 Budget, and GOV.UK explains the changes to salary sacrifice for pensions in detail. Employees who sacrifice less than £2,000 a year will see no difference, while higher contributors and their employers will lose part of the savings.

Is salary sacrifice worth it?

For most employees on a stable income who want to boost their pension, yes. It tends to work best when the employee is comfortable with a lower contractual salary, is not close to minimum wage and has no major mortgage application planned. For employers, it is worth it when the National Insurance saving outweighs the admin cost, and when the scheme is communicated clearly so staff understand the trade-offs.

Frequently asked questionsIs salary sacrifice a good idea?

It can be, especially for pension saving. You pay less tax and National Insurance on the sacrificed amount, so more goes into your pension for each pound of lost take-home pay. Check the effect on your mortgage and statutory pay before you agree.

How much tax and National Insurance will I save?

It depends on your tax band. A basic-rate taxpayer saves 20% Income Tax plus 8% National Insurance on the amount sacrificed, which is 28p per pound. Higher-rate taxpayers save more because 40% tax applies, while employers also save National Insurance.

What are the disadvantages of salary sacrifice?

Your contractual salary is lower, which can reduce mortgage borrowing, statutory pay and salary-linked benefits. You usually cannot opt out mid-year. Pay after sacrifice also cannot fall below the National Minimum Wage.

Can salary sacrifice take me below minimum wage?

No. Cash pay after the sacrifice must stay at or above the National Minimum Wage or National Living Wage for your age. Employers often set a maximum sacrifice level to make sure that stays true.

Does salary sacrifice affect my mortgage?

It can. Some lenders base affordability on your reduced salary, though many will add the sacrificed amount back when they see a payslip showing it. Ask your lender or broker before applying for a mortgage.

This article is general information, not tax, legal or financial advice. Rates, thresholds and rules change, so check current figures with GOV.UK or a qualified adviser.