In recent years, salary sacrifice schemes have become increasingly popular among UK employees as a means of reducing their tax liabilities and increasing their take-home pay. One question that often arises is whether participating in a salary sacrifice scheme can have an impact on student loan repayments. In this blog post, we will explore the relationship between salary sacrifice and student loan repayments.
The Short Answer is YES! Therefore, if you plan to never repay your loan like most graduates in the UK, you should consider using salary sacrifice to invest the money on your pension, or car allowance etc.
If this article does not answer your question, I have finally created a frequently asked questions for salary sacrifice that you visit here this talks about the impact on benefits, pensions, maternity pay and many other things.
Salary Sacrifice: What is it? And How does it Work?
Salary sacrifice, also known as a ‘salary exchange’ or ‘pay sacrifice’, is a legal arrangement between an employee and their employer. In this agreement, the employee agrees to give up, or ‘sacrifice’, a part of their pre-tax salary in exchange for certain non-cash benefits.
The benefits that can be included in a salary sacrifice scheme are wide-ranging and can be tailored to the needs and preferences of the employee. Here are a few examples:
- Pension Contributions: This is one of the most common uses of salary sacrifice. The employee agrees to a lower salary, and the employer contributes the difference to the employee’s pension pot. This can have significant tax advantages, as both the employee and employer can save on National Insurance contributions.
- Mobile Phones: Some employers offer mobile phones as part of a salary sacrifice scheme. The cost of the phone is deducted from the employee’s pre-tax salary, potentially offering savings on income tax and National Insurance.
- Season Tickets for Commuting: If you commute to work by train or bus, a season ticket can be a significant expense. Some employers offer season tickets as part of a salary sacrifice scheme, which can make commuting more affordable.
- Childcare Vouchers: For employees with young children, childcare can be a significant expense. Some employers offer childcare vouchers as part of a salary sacrifice scheme, which can help make childcare more affordable.
The key advantage of a salary sacrifice scheme is its potential tax efficiency. Because the benefits are deducted from the employee’s salary before tax, the employee pays less income tax and National Insurance. Similarly, the employer also pays less in National Insurance contributions.
Firstly, it’s important to understand how student loan repayments work in the UK. Currently, UK students who take out a student loan to pay for their university education start to repay the loan once they start earning a certain amount of money. The repayment threshold is currently £27,295 per annum for Plan 2 student loans (introduced after September 2012), and 9% of earnings above this threshold are deducted automatically from the borrower’s salary through the PAYE (Pay As You Earn) system.
Now, let’s look at how salary sacrifice works. Salary sacrifice is a scheme where an employee agrees to exchange part of their salary for a non-cash benefit, such as a company car, childcare vouchers, or a pension contribution. The benefit is paid for by the reduction in the employee’s salary, which means they pay less income tax and national insurance contributions.
So, can participating in a salary sacrifice scheme reduce your student loan repayments? Yes, if it reduces your gross pay (which I think all SS schemes should do). Let’s look at a couple of examples:
Example 1: No Salary Sacrifice – £50,000 salary, £2998 take home pay, £170 in student loan repayments
Example 2: Salary Sacrifice – £50,000 salary – Sacrificing £500 per month – Take home £2703, £125 in student loan repayments
- You’ve lost about £200 in take home pay, but contributed £500 to your pension (via Salary Sacrifice), and you are paying £45 less per month in student loan repayments.
- You’ve essentially invested the saving on student loans to go into a pension plan that should be growing. Overall this could be a much more efficient plan towards wealth.
Whether you want to reduce your payments or not is a financial decision you need to make. One could put all the excess money into a pension and live on an artificially low salary for many years to avoid repayments, in the hope it is wiped off after 25-30 years. Below a certain threshold you can also keep interest rates on it low.
It’s also worth noting that salary sacrifice schemes can have an impact on other aspects of your finances. For example, if you choose to sacrifice part of your salary towards a pension contribution, you will pay less income tax and national insurance contributions, but your pension contributions will also reduce your taxable income. This means that your overall tax bill will be lower, but your pension contributions will not be counted towards your gross salary for student loan repayment purposes.
