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A Brief Overview of Pensions

An Overview of Pensions

Pensions seem to cause more issues and confusion within payroll than they should.  We will attempt to simplify and demystify their treatment by providing a brief overview of pensions, focusing on how they are managed within payroll as well as touching on auto-enrolment.

The Tax Treatment of Pensions

There are only three ways a pension can be dealt with for tax purposes:

  1. Tax Relief at Source. Here the pension is deducted from the net pay, with tax relief at basic rate reclaimed by the pension provider. The gross pay is not affected, and National Insurance Contributions are made as usual.
  2. Deducted under a net pay arrangement. This is an unhelpful term, but is referring to where the deductions are made before tax, and sometimes referred to as ‘gross for tax’ deductions. Again total gross pay is not affected, and NICs calculated as usual.
  3. Salary Sacrifice. The employee gives up part of their salary in exchange for a benefit, in this case a pension contribution. Gross pay and NICs will be reduced.

The impact of the tax treatment

  1. Tax Relief at Source. The employee will receive tax relief, so a top up to their net contribution, at the basic rate at the pension provider, even if they do not pay tax. This method is considered fairer to lower paid workers, but higher rate earners can still claim additional tax relief via their tax return.
    The other note with this method is that a contribution of 3% against the gross will actually be seen as a 2.4% contribution on the payslip, with the rest reclaimed as tax relief by the pension provider to bring the total back to the 3% (current basic rate tax at 20%).
  1. Deducted under a net pay arrangement. The employee receives full immediate tax relief on their contributions, and so higher rate tax payers do not need to make an additional claim via their tax return. The amount of taxable pay is also reduced, which higher paid employees may find useful if they are approaching thresholds. Employees paid below the tax threshold will not receive tax relief.
  1. Salary Sacrifice. These schemes have become more popular since the introduction of auto-enrolment pensions but they are the most complex. The employee gives up some of their salary, so now the whole contribution is from the employer.  For this reason salary sacrifice pensions do not even need to be processed through payroll, although it is more usual to do so.  Full tax relief is gained immediately on the contribution as well as reducing the employee and employer NICs.
    Care must be taken that the reduced gross pay does not fall below the National Minimum Wage rates, and there are also implications with statutory absence payments as well as other considerations.

The pension calculation basis

Pensions could also be divided in two, as to whether they are based on pensionable pay types or banded earnings.  Since the introduction of auto-enrolment Qualifying Earnings has become the most common form of banded earnings, and probably the most common basis for pension calculations.

  1. Pensionable Pay.  Individual elements of an employee’s gross pay may be subject to pension calculations, such as salary only.  Sometimes it is all pay, or total gross pay, but some care needs to be taken, as often the intention is all pay subject to National Insurance, so that payments such as business expenses or mileage would be excluded.
    For automatic enrolment it is possible to use pensionable pay but the basis needs to be self-certified, usually using one of the predefined sets from The Pensions Regulator.
  1. Banded Earnings.  Qualifying earnings is a band of earnings set by The Pensions Regulator, and is currently the band of earnings between the lower and upper earnings limits for National Insurance.  It is possible to have banding other than qualifying earnings, but this now rarely seen.

A brief overview of Pensions?

So three types of treatment for tax, and two for the basis of the contribution.  Five items to consider for a basic pension set up in payroll.

Shared Parental Leave for Grandparents

Shared Parental Leave to Include Grandparents

There has been a recent announcement that the shared parental leave legislation is to be extended to include grandparents by 2018. The aim is to increase the flexibility and choice for working parents during the first year of a child’s life.

The Government believes nearly 2 million grandparents have had some sort of impact on their working lives in order to help families struggling with childcare costs. And around 7 million grandparents are involved in childcare for children under the age of sixteen.

George Osborne made the announcement on the 5th of October, and consultation on the details is planned for the first half of next year.

Shared Parental Leave and Pay

The Shared Parental Leave (SPL) and Statutory Shared Parental Pay (ShPP) rules are not straightforward. Employees can take up to three separate blocks of SPL, and SPL becomes available when they end their maternity or adoption leave or pay early.

Eligibility for SPL and ShPP can be calculated following the government guidelines and it is possible only one parent will be eligible. The current rate of ShPP is £139.58 per week, or 90% of an employee’s average weekly earnings, whichever is lower.

You may find a few further details about SPL and ShPP leave here, but we believe for now each employer has to approach each request on an individual basis, and uptake is likely to be low.

Statutory Payments to April 2016

Statutory Payments for the 2015/16 Tax Year

Statutory Sick Pay (SSP) 2015/2016
Minimum weekly earnings to qualify £112.00
Weekly rate of SSP £88.45
Statutory Maternity Pay (SMP)
Minimum weekly earnings £112.00
Higher weekly rate for first 6 weeks 90 % of average weekly earnings (in the qualifying period)
Lower weekly rate for 33 weeks is the lesser of £139.58 or 90% of average weekly earnings

SMP is now paid for up to 39 weeks within this period an employee may have 10 keep in touch days (KIT) which will not effect the payment of SMP

Ordinary Statutory Paternity Pay (OSPP)
Minimum weekly earnings £112.00
Weekly rate for up to 2 weeks is the lesser of £139.58 or 90% of average weekly earnings
Statutory Adoption Pay (SAP)
Minimum weekly earnings £112.00
Weekly rate for up to 39 weeks Is now in line with SMP

All employers are entitled to recover 92% of the SMP/OSPP/SAP they pay.

If you qualify for Small Employers Relief (annual liability for National Insurance less than £45,000) you are entitled to recover 100% of the SMP/SPP/SAP you pay plus 3% for payments made after 6th April 2014.

Statutory Redundany Pay

The statutory redundancy rate is £475.00 maximum per week

You can also visit the HMRC website for more details.

Directors National Insurance

National Insurance for Directors is classed differently from that of employees.   There are two methods which can be used for Directors National Insurance namely Cumulative (or Directors) and Table Method (or alternative).

Cumulative Directors National Insurance applies Annual Thresholds for calculating the amount due and as such no National Insurance is due until the earnings for the tax year exceed the Annual Earnings Threshold.  National Insurance is then paid on all earnings until the Annual Upper Earnings Threshold is reached at which point all remaining earnings until the end of the tax year have a rate of 2% Employee National Insurance applied.

The effect of Cumulative Directors National Insurance which is most often noticed is that the Employees National Insurance deducted can fluctuate considerably with each payroll even if the payment is the same.

Table Method Directors National Insurance applies the appropriate thresholds for the payroll frequency, ie if paid monthly the monthly Thresholds are used.  The amount of National Insurance deducted by Table Method Directors National Insurance is identical to that by standard Employee National Insurance, other than in the final payment of the tax year the total amount of National Insurance is recalculated for the complete tax year.

In total for a complete tax year the amount of Employees National Insurance deducted by either method of Cumulative or Table Method Directors is the same, the main difference is that with Cumulative Directors National Insurance the deduction fluctuate with each payroll whereas the Table Method are constant so long as the payment is the same.

If you wish to discuss outsourcing your payroll to Payroll Options, please contact us