Salary sacrifice might sound like a scary and confusing concept.
But, as Rebecca Spicer discovers, if you are clear about why you want to offer a salary sacrificing option to your staff and if you get the right advice on how to manage the offer, it can be a win-win situation for your business and for staff.
PayGlobal, a New Zealand-based people management software company, recently expanded its operations into Australia, with 35 local staff currently on their books. The company’s director of professional services, David Janssen, says PayGlobal started offering employees a salary sacrificing option in their pay package following a request from staff wanting to put more of their pre-tax pay into superannuation. The company is now also offering other benefits, such as laptop computers and cars, for staff to purchase with pre-tax dollars, reducing their taxable income and saving them money in the long run.
"Offering a salary sacrifice option helps make us more competitive against other software companies who also offer this to staff as part of their standard salary packages," Janssen says.
So what is it and how does it work? Also commonly referred to as salary packaging or total remuneration packaging, in simple terms salary sacrifice is an arrangement between an employee and an employer where the employee is giving up part of their income (the sacrificed component) for another benefit. "So rather than get after-tax cash in your back pocket, you’re basically trading that off for other particular benefits," explains Hugh Elvy, manager of financial planning and superannuation at the Institute of Chartered Accountants Australia (ICAA).
The key issue is that it’s an opportunity for employees to reduce their tax, adds Matthew Honan, principal of salary packaging service provider, Remunerator. "It gives employees the ability to structure their package to minimise their tax and maximise the money in their own pocket."
The types of salary that can be sacrificed include salary and wages, leave entitlements, and bonuses and commissions. There is no limit on the amount of salary that can be sacrificed, unless there is a minimum salary or wage stated under an industrial award. Employees only pay tax on their reduced salary but receive the reduced salary plus the benefits.
All non-cash benefits can be sacrificed, forming part of an employee’s remuneration and replacing what otherwise could have been paid as salary. The types of benefits employers will generally provide in salary sacrifice arrangements include fringe benefits, exempt benefits, and superannuation.
Common fringe benefits include cars, property (such as shares or bonds), and expense payments (such as loan repayments, school fees, child care costs, and home phone costs). Offering these benefits will incur a fringe benefits tax (FBT) payable by the employer. The rate will vary depending on the type of benefit.
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Exempt benefits include those that are exempt from FBT, such as a laptop computer (limited to one computer per year per employee), or a mobile phone. Mobile phones will only attract the exemption if used primarily for the employee’s job.
Normally, contributions for an employee to a complying superannuation fund under a salary sacrifice arrangement are not subject to FBT. However, where contributions are made under such an arrangement for the benefit of an employee’s associate, such as a spouse, they are subject to FBT.
Honan says that some other popular benefits taken up by employees include staff lunches, income protection, professional development expenses, and car parking.
Calculating Fringe Benefits Tax
Determining which products incur FBT can be tricky, but Elvy recommends that people consider whether they’re gaining a benefit that is also considered to be business-related. In most cases, if the benefit is going to be used in the employee’s job it would generally be considered FBT-exempt.
When it comes to a car, however, it depends on the structure of the salary package and whether the vehicle is considered an employee’s tool of trade, for personal use only, or a combination of both. This is when calculating FBT can become quite complicated.
Consequently, the employer may choose to limit what benefits are offered to employees if excessive administration is required (such as in the case of a novated car lease), or if the benefit incurs a high level of FBT. Alternatively, an employer may choose to outsource their salary packaging to an external service provider, which we’ll address later.
While the employer is liable to pay the FBT, Honan says they don’t necessarily have to be out of pocket. Employers can ask employees to contribute to the FBT payable, and employees could still pay less tax than if they didn’t have a salary sacrifice arrangement.
Through the salary packages Remunerator provides to its clients’ employees, the FBT is fully funded by the employee. "The FBT is a tax payable by the employer but the FBT is recovered from the package," explains Honan. "So when the employee salary sacrifices, included in the amount sacrificed is the amount for FBT that will be payable."
The Remunerator service is also a user-pays system, so there’s no cost to the business. "Our service is structured on a per employee basis, so when the employee does their assessment as to whether it’s worthwhile or not, we’ve factored in our costs associated with their package, which is marginal compared with what they’re going to save.
"The value to employers is pretty easy to estimate–it enables them to give more money to their employees’ net, at no cost to themselves." And in some cases, it can also help reduce a business’ payroll tax.
Given that the main benefits are experienced by the employee, salary sacrifice is generally offered as a staff attraction and retention tool. What the employer ultimately likes is the golden handcuff, says Honan. "If someone is packaging something like a motor vehicle, it makes it difficult for a staff member to leave if they’re going into an organisation that isn’t offering packaging."
Consequently, Remunerator encourages its clients to offer their staff as many benefits as possible. "We always caution the employer to keep it as flexible as possible to ensure they maximise the opportunity for the individual."
While traditionally only offered to senior executives and high income earners, according to Honan popularity in salary sacrifice arrangements has gained momentum across all levels of employees, within all organisations. "I think it’s more the small businesses who have actually become more exposed to, and aware of it over the last three or four years," he says. Which is why Remunerator started a sister company, Benefits Plus, specifically focusing on the SME market.
Salary Packages
Elvy says the decision to administer salary packages internally or externally will depend on the expertise and responsibilities of a business’ finance manager or payroll staff. If a company decides to only offer its staff salary sacrificed benefits like superannuation and laptop computers, most payroll software will be able to handle deductions for these. But when it comes to more complicated things such as a novated car lease where the payments, servicing, insurance and petrol cards can all come into it, a business is more likely to outsource this to a leasing company.
A company offering a broader range of benefits to employees may also find it easier to have this managed off-site. "Generally with payroll, it’s pretty straightforward as to how to pay employees on time every week or ev
ery month," says Honan. "But with packaging it can get a little more complicated and there’s a lot more admin involved."
Remunerator, for example, provides a cradle to grave service. It starts by consulting with the business to explain the process, as well as the products available. Then they develop a remuneration program and launch it to the client’s employees. Remunerator then works with the individuals to explain their options and how they can structure their package; and finally, the company becomes the administrator to any of the salary packages entered into by the client and their employees. It holds the contract on behalf of the employer, but essentially provides the service to its employees. "So the whole idea isn’t for the employees to recognise Remunerator as the good guys, but for them to identify the employer as the good guys," explains Honan.
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Organising salary sacrifice internally can make it harder to justify passing on the costs to the employee, he adds, particularly when the benefits start incurring FBT. So he believes that when staff are aware that it’s outsourced, it’s easier for them to accept they’ll wear more of the cost.
Janssen says he decided to outsource PayGlobal’s salary packaging mainly because it meant they could offer more pre-tax benefits to staff. "The outsourced option offers more choice for our staff in terms of what products we can offer them and what benefits they can get," he says. The most popular benefits for PayGlobal staff have been superannuation, novated car leases, laptops and PDAs. There’s a whole heap of other things the company can offer staff through its outsourced service provider, such as briefcases, electronic diaries, memberships to professional organisations, subscriptions to trade magazines, membership to airport lounges, and so on.
Janssen says a motor vehicle is probably the most complex benefit and requires a lot of reporting, and that’s the benefit of getting another organisation to help. "There’s an accounting part to it as well as the payroll part, and it’s the accounting part that becomes more challenging for smaller organisations because you need to know how to account for the costs of the motor vehicle as well as lease payments and so on. So if you do it directly it would be quite time-consuming and expensive, whereas if you outsource it somebody else does all that and they just give you the paperwork at the end."
Janssen says the selection process for sourcing a company to handle their salary sacrifice arrangements was quite difficult because not a lot of companies specialise in servicing small businesses. However, after doing research and consulting with HR advisers, he ended up going with another end-to-end salary packaging service provider, SmartSalary. While relationships and costs did come into the final decision, the clincher was that SmartSalary offered more benefits for their staff to choose from, which was a priority. They also helped PayGlobal set up all the things they needed internally. "There’s always procedures you need in place even if you outsource. For example, if you want to purchase a laptop, they’ve got a procedure document as well as a form you fill out. So it helps that we were able to get that information from them to put onto our intranet. So staff have got all the information about how to go about using the salary sacrifice."
PayGlobal bear most of the cost, which Janssen says is based on a per annum basis, but it’s not a huge cost. Employees may pay a fee if they get, say, a novated car lease, because of the work that goes into that, but for other benefits there’s no charge to the employee.
So Janssen says it’s important to shop around for the right type of service provider. There are quite a few out there and each offers different salary packages with different benefits, and the costs and degree of administrative support can also vary, so it’s worth doing your research.
Employer’s Key Questions:
Is this something you want to do and why are you doing it? For example, is it a staff attraction and retention strategy? Is this something your staff actually want?
Do you want to wear the cost of it, share the cost with employees, or pass the costs on?
Is your payroll system able to handle salary sacrificing and do pre-tax deductions?
Do you want to handle it internally or outsource the process?
What will you get from a provider if you outsource it? What do they offer and what administration do they provide? Be clear about the accounting requirements and what reporting they will give you, as well as what administration requirements you’ll need internally.
What sort of benefits are you going to allow? There is a huge selection of things you can offer, but this doesn’t mean you have to offer everything. Choose the ones that make it attractive to your staff.
Which staff are going to be eligible?
Salary Sacrifice Example
Sam works as a sales manager and receives an annual salary of $65,000. He wants to enter into a salary sacrifice arrangement and lease a $35,000 car. He expects to travel between 25,000 and 40,000 kilometres for the FBT income year. Sam’s salary packaging provider calculates that he will need to sacrifice $14,484 if no employee contributions are made.
Using the above figures, the following table illustrates how salary sacrificing and employee contributions work by comparing the net disposable income for each scenario. The car expenses of $11,500 are also based on a leasing arrangement.
|
Salary only(no packaging) |
Salary Package (including car) |
|
|
Annual remuneration |
$65,000 |
$65,000 |
|
Less salary sacrifice amount |
$ NIL |
$14,484 |
|
Taxable income |
$65,000 |
$50,516 |
|
Less tax |
$16,512 |
$11,327 |
|
Less 1.5% Medicare |
$ 975 |
$ 758 |
|
Income after tax and SSA |
|
$38,431 |
|
Less car expenses |
$11,500 |
$ NIL |
|
Net disposable income |
$36,013 |
$38,431 |
Source: Australian Tax Office, http://www.ato.gov.au
