The way salary sacrifice schemes are taxed is changing – and there could be major implications for a range of health-related benefits. Regular HI Daily contributor Emily Perryman assesses which benefits will be most affected and asks the experts how businesses should prepare
Changes to the way salary sacrifice schemes are taxed could lead to employers phasing out health-related benefits.
The measures, announced by the Chancellor in November’s Autumn Statement, will result in the tax and National Insurance (NI) advantages of salary sacrifice schemes being removed from April 2017, except for arrangements relating to pensions, childcare, Cycle to Work and ultra-low emission cars.
For other benefits paid for through salary sacrifice, including health screens, gym membership and certain group protection products, employees will face the same tax bill as those who buy them out of their post-tax income. Employers will also lose their 13.8% NI saving.
The changes are expected to have a big impact in the health screening space. Emma Roberts, principal at Mercer Marsh Benefits, says health screens have become an increasingly popular benefit in recent years as people take greater interest in their health.
A comprehensive health screen can cost around £500. Under a current salary sacrifice arrangement, a higher-rate taxpayer could save in the region of £200 so taxing it as a benefit-in-kind will result in a significant saving being lost.
Roberts argues that the legislation goes against the government’s aim of levelling the playing field for the lowest-paid workers who can’t afford to take advantage of salary sacrifice.
“Employers often pay for health screens for their top executives and then offer them out to other employees to buy. These employees will now face a bigger bill after the taxation changes,” she says.
Likewise, Debi O’Donovan, director at the Reward & Employee Benefits Association (REBA), argues it will be the “just about managing” employees who will be most affected by no longer having access to health and wellbeing benefits.
“The salary sacrifice arrangements have made many employee benefits affordable for lower-paid employees in recent years,” O’Donovan says. “This change will have little impact on the higher-paid who will probably continue to afford to select the benefits they want, or receive them as an employer-paid benefit.
“While REBA agrees that the government did need to clamp down on the increasing misuse of salary sacrifice for more ‘luxury’ perks, we are disappointed that so many essential employee benefits have been caught up in this change.”
Roberts say it is unlikely that employers will stop offering health screens in the short term because they are so popular with employees. Instead, she thinks employers will transition to the new rules and then evaluate whether employees are still buying the benefits.
“It could drive employers to look at more cost-effective ways of offering benefits,” Roberts says. “Traditional health screens are very expensive because as well as offering standard blood tests they provide face-to-face time with a GP. Some companies do blood tests but they don’t offer the expensive face-to-face time – this could lead to a higher take-up. The changes offer an opportunity for employers to look at their benefits package and move to one that really targets want people want.”
A big question mark remains over the future taxation of group income protection (GIP), which was not included in the Autumn Statement’s list of exempted benefits. Mercer is seeking clarity over whether GIP forms part of the clampdown.
Roberts says it isn’t rational to tax GIP provided through salary sacrifice because once an employee makes a claim, the claim payments are taxed.
“There is no sense in subjecting claimants to double tax,” she argues.
GIP has become more popular as a salary sacrifice benefit where the employer enables employees to “flex up”. For example, a company might cover 50% of salary and the employee could top this up to 75%. Alternatively, the company might pay for a limited term policy and enable employees to increase it to retirement age.
Roberts estimates that of the employers who offer flexible benefits, between a third and a half might include income protection.
Ron Wheatcroft, technical manager at reinsurer Swiss Re, believes the lack of a GIP exemption sends mixed messages. Only two months ago a government green paper suggested employers have a greater role to play in boosting employee health and wellbeing, and it specifically highlighted GIP as a possible solution.
Wheatcroft says the easy option for employers will be to simply remove the ability for employees to top up cover. Otherwise, a situation could arise where part of the claim is taxed and the other is not: the proportion paid for by the employer will be taxed, whereas the proportion paid for by the employee won’t because they will already have paid tax on the premium.
Katharine Moxham, spokesperson for trade body GRiD (Group Risk Development), says this will add complexity for providers and scheme members.
“It will add a further burden on businesses which might otherwise have included a facility to allow their employees to build on a basic level of employer-provided cover,” she states.
Wheatcroft says the change could increase the attractiveness of individual income protection, although he says it would be very complicated for individuals to calculate the level of cover needed if an employer pays, say, 50% of income.
“They will need to go to an adviser,” he adds.
Group critical illness (CI) has not been spared from the clampdown. Johnny Timpson, protection specialist at Scottish Widows, says group CI sales have increased significantly in recent years on the back of workplace distribution. He estimates that half of these sales are part of flexible benefit arrangements.
Timspon says if the tax incentive on group CI is removed, it is “highly unlikely” that people in lower income bands will buy an individual product.
“Given the protection gap in the UK this is a retrograde step,” he says.
There is also a lack of clarity over how life assurance schemes under flexible benefit arrangements will be affected. Roberts says it is common for employees to be able to “flex down” cover in exchange for cash or alternative benefits as well as purchase additional life assurance. There could be a taxable impact on monies released where members do flex down, although Roberts says the full ramifications won’t be known until further details are released.
Gyms and PMI
Employees who receive discounted gym membership through salary sacrifice schemes will only see a small impact from the changes. Gym membership is currently treated as a benefit-in-kind, so while the employee doesn’t have to pay NI they do have to pay income tax.
However, Roberts says the impact will be noticeable for companies providing on-site gym membership, which is currently free from NI and income tax. Under the new rules, on-site gym membership paid for through salary sacrifice will lose these tax exemptions.
Private medical insurance (PMI) has not been excluded from the changes but this is unlikely to have a far-reaching impact. Iain Laws, managing director – UK healthcare and group risk at Jelf Employee Benefits, says it is very unusual for PMI to be bought via salary sacrifice. This is because PMI is treated as a benefit-in-kind so there is no tax advantage to the employer for offering it under salary sacrifice. In addition, insurers do not allow selective membership for company policies so offering membership on a self-pay basis is not possible.
PMI policies will be more impacted by the increase in insurance premium tax (IPT) from 10% to 12% from 1 June 2017.
Roberts expects there to be an increase in large employers looking at alternative funding options, such as healthcare trusts. IPT is only due on any stop-loss insurance, so the tax is much lower than on an insured scheme.
“For smaller employers healthcare trusts can be risky. They might have to bite the bullet and look at managing their claims more effectively instead,” Roberts adds.
The next four months are likely to be a major headache for employers. The changes are due to come into force from April 2017, although new schemes in force before that date have been granted an exemption for another year.
Jeff Fox, principal at Aon Employee Benefits, says the short timescale for communications and payroll will present challenges and it will be harder for businesses to offer a compelling and competitive benefit package.
Steve Herbert, head of benefits strategy at Jelf Employee Benefits, says it is extremely important for employers to communicate with employees about which benefits are changing and how they will be taxed.
Employers should also consider whether benefits of the same quality will be affordable and look at some alternatives.
“Businesses need to look these factors sooner rather than later,” Herbert states.
Joanne Neary, employee benefits consultant at Sanlam, says employers should consider what employees actually value and then communicate their benefits effectively.
“Employees won’t want to suffer the tax consequences on a benefit they don’t want or don’t understand,” she says.
Kevin Gude, director at law firm Gowling WLG, says details as to how the changes will be implemented will not be made clear until legislation is produced, however this will not cover the way individual arrangements need to be revised.
Gude points out that HMRC can dictate the effect of operating salary sacrifice, but the arrangements themselves are governed by the terms of the employment contract negotiated between employer and employer.