Employers setting up or reviewing a workplace pension scheme are usually offered a choice between three ways of collecting contributions: relief at source, net pay arrangement, and salary sacrifice. They all get money into an employee’s pension, but the tax treatment, the impact on take-home pay, and the administrative burden differ enough that the choice is worth understanding properly rather than defaulting to whatever a provider sets up first.
Relief at source
Under relief at source, the employee’s contribution is deducted from their pay after tax and National Insurance have already been taken. Per MoneyHelper, the pension provider then claims basic rate tax relief from HMRC and adds it to the pot. This works well for basic rate taxpayers, since the relief is added automatically. Higher and additional rate taxpayers don’t get the full benefit through this route alone. As GOV.UK sets out, they have to claim the extra relief themselves, usually through a self-assessment return, and it’s common for employees to not realise this is on them and simply miss out.
Net pay arrangement
A net pay arrangement takes the contribution out of an employee’s pay before tax is calculated, so tax relief is applied immediately at the employee’s own marginal rate with nothing extra to claim. This suits higher earners well, since the full relief lands automatically. The catch is for very low earners: those who earn below the personal allowance don’t pay income tax in the first place, so under a net pay arrangement they get no tax relief on contributions, unlike relief at source where even non-taxpayers can receive a top-up, as MoneyHelper explains.
Salary sacrifice (exchange, it’s the same thing)
Salary sacrifice works differently again. The employee agrees to give up a portion of gross salary, and the employer pays that amount into the pension directly instead. Because the sacrificed amount never appears as salary, neither employee nor employer pays National Insurance on it. That’s a saving for both sides, and it’s the reason salary sacrifice is generally the most tax-efficient of the three methods for most UK employers. We’ve covered how this compares to non-salary sacrifice arrangements in more detail in Pension Salary Sacrifice vs Non-Salary Sacrifice, which is worth reading alongside this piece for the fuller picture.
How to choose between them
There isn’t a single right answer for every business. A workforce weighted toward higher earners often benefits most from salary sacrifice or a net pay arrangement, since both apply relief without anyone needing to claim anything back. A workforce with a lot of lower earners or non-taxpayers may be better served by relief at source, since it’s the only method of the three that still adds a government top-up even when someone earns below the personal allowance. Employers also need to weigh administrative complexity: salary sacrifice requires contractual changes to employment terms, while relief at source and net pay arrangements can usually run through standard payroll processes with less setup.
Getting this choice right affects take-home pay, National Insurance costs, and how much of a fuss it is to administer, so it’s not a decision to make on autopilot when a provider is set up. If you’re unsure which method suits your workforce, talk to HWWA and we’ll help you work through the numbers for your specific business.
