Salary sacrifice, surpluses and inheritance tax: what the UK Budget means for your pension funds

However, other aspects of the chancellor’s speech will have a notable impact on employers, trustees and pension professionals.

Pensions salary sacrifice

Pensions salary sacrifice is an arrangement where, instead of paying contributions directly to their pension, an employee contractually agrees with their employer to give up part of their salary, or bonus, in return for the employer paying an equivalent amount into their pension.

These payments are treated as employer pension contributions. This saves employer and employee National Insurance contributions (NICs) because employee pension contributions are subject to NICs and employer pension contributions are not.

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From April 2029, salary-sacrificed pension contributions exceeding an annual limit of £2,000 will be subject to both employer and employee NICs. Ordinary employer pension contributions remain exempt from NICs.

The impact of this change will vary depending on workforce composition and pension contribution structures. Employees earning under £40,000 are less likely to be affected, but for higher earners, the measure is expected to increase NI costs for both employers and employees. The measure could also hit pensions adequacy, as employers currently making pension contributions above the auto-enrolment minimum may look to cut back to compensate for increased NI costs.

Ahead of the change to the new regime, employers should:

• assess how employees will be affected and calculate the potential cost to the business;
• review pension structures to determine whether to adjust contribution levels, particularly where NIC savings are currently shared with employees;
• communicate with employees about the changes and any adjustments to pension arrangements, advising them that adjustments may require updates to employment contracts and pension scheme terms;
• update payroll systems to ensure they are ready to implement the new rules.

Employers have time to evaluate whether to continue offering salary sacrifice, including for bonuses or redundancy payments. Some may move to a non-contributory pension model - particularly for higher earners - although this would involve changes to employment terms and could have implications for other employment and state benefits.

Contractual amendments and payroll updates take time, so while April 2029 allows plenty of time to plan, this issue requires engagement at an early stage.

Inheritance tax

Following the changes to the inheritance tax (IHT) regime announced in last year’s Budget for April 2027, organisations representing personal representatives (PRs) have expressed concern at the risks PRs will be exposed to if they are made liable for IHT on pension assets that are transferred directly to beneficiaries.

The chancellor is now proposing that PRs will be able to instruct pension scheme administrators to withhold 50% of taxable benefits for up to 15 months, facilitating payment of IHT in certain circumstances.

This move is likely to present challenges for pension scheme administrators, particularly when they are required to navigate difficult or complex family situations. 

DB surplus payments

From April 2027, well-funded defined benefit pension schemes will be permitted to pay surplus funds directly to scheme members over the normal minimum pension age where permitted by the scheme rules. 

This is a welcome measure that has been called for by the pensions industry. However, the scope of the proposal remains unclear, and the restriction of payments to members over normal minimum pension age could limit its utility, given trustees’ obligation to consider the interests of all members in the context of surplus distribution.

Pre-1997 increases for PPF and FAS members

From 1 January 2027, increases linked to the consumer price index up to 2.5% per annum will be applied to pre-1997 pensions for members of the Pension Protection Fund (PPF) and Financial Assistance Scheme (FAS), where these increases were provided by their original scheme’s rules. 

It will be interesting to see the detail of the final legislation and whether increases will be provided where the original scheme provided pre-1997 increases only to guaranteed minimum pensions.

This change will be of particular interest to trustees who are currently working to buy-out their schemes on a ‘PPF plus’ basis – whose PPF surplus may be wiped out by the inclusion of future pre-1997 increases – and those who have already done so. 

The change leads to a surprising position, where the members of schemes with insolvent employers that have been able to secure additional benefits outside the PPF may now be worse off than if their schemes had joined the PPF. There is currently no suggestion that these schemes will be given a further opportunity to join the PPF.