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The tax year end brings tax planning into sharp focus. Attention is given to maximising pension funding in particular. If allowances are not used now, they could be lost forever. The sacrifice of a tax year end bonus is an attractive way of using up annual pension allowances. The spendable amount an individual could get back in retirement could be nearly double that of taking the cash bonus.

 Of course, a large bonus can push a client’s income over certain thresholds, meaning other key allowances and benefits could be lost. Contributing to a pension can solve these issues too. Making the payment from earnings over ISAs or cash savings can help to retain these valuable allowances. Cashing in other investments to fund the pension may trigger additional income tax and capital gains tax charges which could negate the pension tax reliefs.

How does bonus sacrifice work?

Bonus sacrifice is quite simple. For pensions, it involves the employee agreeing to give up some or all of their bonus in exchange for an extra employer contribution to their pension.

As the employee's remuneration is reduced, they and their employer will pay less National Insurance (NI). The employer could decide to pay some or all of their NI saving into the employee’s pension too - overall, it won't cost them any more than paying the bonus.

The NI savings for basic rate taxpayers are even greater as they pay NI at 12% on income over £12,570. So they effectively get 32% tax relief on pension contributions paid by sacrifice.¹

It should be noted that employer NI will increase to 15% from April and so the benefits of sacrifice could be even greater where an employer agrees to such arrangements.

But bonuses paid in this tax year must be sacrificed before April to get the benefits outlined above. Failure to do this could mean that individuals lose one year’s annual allowance under carry forward, there may be no reinstatement of the personal allowance or child benefit, and a year’s tax-free growth may also be lost. There is also no guarantee the same level of bonus is granted next year.

Avoiding the High Income Child Benefit Charge

Child Benefit can be taken for granted - but it can also be taken away. Where someone in the household earns more than £60,000, the benefit begins to be withdrawn by way of a tax charge - at the rate of 1% of the benefit for every £200 over this threshold - with Child Benefit being cancelled out completely for those on £80,000 or more. This could mean losing out on £3,094 for a family with three children.

A bonus paid late in the tax year could mean the total income tips over the £60,000 threshold. The solution could be as simple as making a pension contribution as this reduces the income (adjusted net income) used to determine eligibility. Considering a £10,000 bonus again, this will reduce income (adjusted net income) by £10,000, whether this is done as an individual contribution or under a sacrifice arrangement. But using the latter means benefits will be boosted further if the employer NI savings are paid in too.

Consider again an individual with a salary of £60,000 and an annual bonus of £10,000. To retain the full child benefit a gross pension contribution of £10,000 needs to be made. The effective rate of tax relief on this payment (after adding back all tax savings made, including any employer NI savings due) works out as:

Retaining personal allowances

In the same way, a larger than expected bonus could mean clients miss out on their personal allowance. The allowance is eroded once income (adjusted net income) is greater than £100,000, until there's no personal allowance at all for anyone with income over £125,140. A pension contribution can help clients bring their income back down below £100,000 to retain their personal income tax allowance.

Someone with total income of £125,140 could get effective tax relief of 60% on a pension contribution of £25,140. This would be just enough to retain their personal allowance. That’s 40% tax relief on the £25,140 going into their pension and a further 20% by getting their personal allowance back. And of course, this can be boosted further by NI savings if it can be achieved by bonus sacrifice. 

Summary

A bonus is often the final piece of the remuneration jigsaw. Only after the amount is known will the full income picture for the year become clear. Bonus sacrifice is subject to the employer’s agreement and is only possible before the bonus is received.

¹ Based on main UK tax rates and allowances for the 2024/25 tax year: not Scotland.

Visit our Wrap tax year end hub where you can find all the support and resources you need to plan with confidence this tax year end.