How to calculate the savings from salary sacrifice

Potential savings from offering flexible benefits via salary sacrifice can be hard to calculate, says Jenny Keefe

Once employers have decided to set up a flexible benefits scheme using tax-efficient perks offered via salary sacrifice to fund the plan, they might think working out the potential savings is easy.

Big savings can be made from salary sacrifice arrangements, where workers give up a portion of their pre-tax earnings in return for benefits such as pension contributions, to avoid tax and national insurance contributions (NICs). For example, an employee earning £30,000 who contributes 5% into their pension would reduce their employer’s NICs by £200 a year, according to figures from consultancy Towers Watson.

But exactly how much employers stand to save by offering tax-efficient benefits through flex is hard to say, not least because predictions will be based on average costs and take-up, and there is no such thing as an average employee or an average employer.

Calculation based on variables

Any attempt to calculate the exact savings, based on variables such as consultancy fees, setting up the system, licence fees and administration fees, is at best only guesswork on the part of consultants and providers. Julia Turney, proposition development manager at Jelf Group, says: “Some variables are fixed costs and not per-head driven. Therefore, the scheme’s overall cost and savings are driven by take-up rates and the NICs saved. These cannot be known in advance. An employer can model and make assumptions, but there are far too many variables to have a savings formula of real value to employers.”

But employers should not give up trying to gauge savings. The starting point is to forecast take-up rates, but these can vary hugely, says Stephen Briggs, senior consultant at Mercer. For example, the average childcare voucher take-up is 5%, but Mercer has seen it as low as 0.5% and as high as 12%. “Take-up is never a sure thing,” he adds.

Gillian Haworth, reward consultant at Redbourne, says: “There are several things employers can do to help forecast take-up rates and therefore savings. Start by researching employees’ appetite through surveys and focus groups. But it is important to note that they may be more willing to express an interest than to actually act on it.”

Employers can also research similar organisations’ experiences, says Haworth. “An organisation knows its workforce and consultants should know benefits trends, so can model the kind of savings a client can expect. A forecast needs to be conservative, because staff scepticism and receptiveness to change can influence the outcome.”

Know every relevant cost

To get calculations right, employers have to know every relevant cost. If, say, an employer with 1,000 staff paid £70,000 set-up costs, how would it know whether the scheme has paid its way? The answer is to note the true costs it has incurred and subtract these from the savings, says Mercer’s Briggs. “Even if take-up was known in advance, the costs an employer could expect are an additional, highly-fluctuating variable. Differences in advisory, communication and implementation costs can be as much as 300%.”

Simon Parsons, director of payments, benefits and compliance strategies at Ceridian, says: “Per-employee savings can be estimated across the workforce as an average. They depend on earning levels, tax bands and NICs earnings limits, which can vary a lot.”

Now it is time to scan the horizon and predict future savings. Redbourne’s Haworth says: “Costs of operating salary sacrifice schemes are always higher in the first year because of implementation costs. If employers are looking to either neutralise costs or make a saving, it is important to take a longer-term view of about three years.”

A slight complication is that organisations need to take factors such as take-up and retention trends into account. Mark Carman, marketing and communications director at Motivano, says: “Some employers struggle to compare the pre-flex position, because many only start to capture data once flex is in place. The provider should work with the employer to understand trends and gather data.”

Predicting government policy

Then there is the tricky business of predicting future government policy. In 2006, the government suddenly withdrew the home computing initiative after only two years. Sean McSweeney, principal consultant at AWD Chase de Vere, says: “We are slaves to future tax treatment of underlying benefits.”

Redbourne’s Haworth says take-up rates have diminished over the last year as staff opted to maintain income levels rather than buy salary sacrifice perks. “The recession may also have affected organisations through redundancy or pay cuts, which will not have been predicted in a 10-year savings forecast.”
Little wonder, then, that many benefits providers and consultants steer clear of putting an exact figure on savings.


Case study: Weil, Gotshal and Manges

International law firm Weil, Gotshal and Manges uses a consultant with knowledge of its industry to help calculate its salary sacrifice figures.

Thea Gaunt, head of human resources, says: “An employee benefits consultancy that has detailed knowledge of the industry can be invaluable to validate realistic figures. We work with consultants that conduct regular research and have extensive knowledge of the sector.”

The firm, which has 206 staff, launched a flex scheme in 2008. “Our consultants assisted with the design of our flex system, which allows access to provider reports and salary sacrifice management information,” says Gaunt.

The company does not use the savings to offset scheme costs, however. “The main savings come from the pension salary sacrifice scheme,” says Gaunt. “But the firm uplifts the employee pension with this saving, so essentially it is passed on to employees.”


Case study: Azzurri Communications

Azzurri Communications introduced a flex scheme last year and works with the plan provider to stay on top of the salary sacrifice savings.

Noel McGonigle, HR director, says: “Our provider looks after the sums for us. We do monitor the savings, though, by reviewing the savings reconciliation of the benefits scheme annually.”

The communications firm, which has 700 staff, splits its national insurance savings 50/50 with workers. “Half goes to scheme administration, the other half into staff pension funds,” says McGonigle.

“The key factor was we wanted to ensure the plan was self-funding.”