Salary Sacrifice Car Tax Explained
Salary sacrifice can be one of the most tax-efficient ways for employees to obtain a company car, particularly an electric vehicle.
However, understanding the tax position is important because salary sacrifice affects Income Tax, National Insurance and company car Benefit-in-Kind taxation.
This guide explains how salary sacrifice car tax works in the UK, how Benefit-in-Kind tax is calculated, why electric cars are often the most tax-efficient option and how Optional Remuneration Arrangements (OpRA) rules affect salary sacrifice schemes.
If you are new to salary sacrifice, start with our Salary Sacrifice Explained guide.
How Salary Sacrifice Changes Your Tax Position
Under a salary sacrifice arrangement, an employee agrees to give up part of their gross salary in exchange for a benefit, such as a company car.
This changes the employee's tax position because:
- The employee's gross salary is reduced.
- Income Tax is calculated on the lower salary.
- National Insurance is calculated on the lower salary.
- The employee pays Benefit-in-Kind tax on the company car.
The overall financial result depends on whether the Income Tax and National Insurance savings are greater than the Benefit-in-Kind tax payable on the vehicle.
For many electric vehicles, the answer is often yes because electric cars attract relatively low Benefit-in-Kind tax percentages.
The Three Taxes That Matter
Salary sacrifice affects both employee and employer taxation. Employees may see changes to Income Tax and National Insurance, while employers may need to consider employer National Insurance, Class 1A National Insurance, VAT recovery and corporation tax treatment when assessing the overall cost of a salary sacrifice scheme.
Income Tax
Because salary sacrifice reduces gross salary, employees generally pay less Income Tax than they would have paid on the surrendered salary.
National Insurance
National Insurance contributions are also normally reduced because they are calculated on the lower salary.
This can create savings for both employees and employers.
Benefit-in-Kind Tax
A company car is treated as a taxable benefit.
Employees therefore pay Benefit-in-Kind tax on the vehicle based on its taxable value and the relevant company car tax percentage.
The interaction between these three taxes is what determines whether salary sacrifice produces a worthwhile financial benefit.
Why Electric Cars Are Tax-Efficient
Electric cars currently attract lower Benefit-in-Kind percentages than most petrol, diesel and hybrid vehicles.
As a result, the company car tax payable on an electric vehicle can be significantly lower than the Income Tax and National Insurance saved through salary sacrifice.
This favourable tax treatment is one of the main reasons why electric vehicles have become so popular within salary sacrifice schemes.
Many employees find that an electric vehicle obtained through salary sacrifice costs less overall than arranging a similar vehicle privately through leasing or finance.
You can explore suitable vehicles using our Electric Car Search.
Understanding Benefit-in-Kind Tax
Benefit-in-Kind tax is the tax charged when an employee receives a company car as part of their employment package.
The taxable value is generally based on:
- The vehicle's P11D value.
- The applicable company car tax percentage.
- Any employee contributions.
In simple terms:
Benefit-in-Kind Value = P11D Value × Company Car Tax Percentage
The resulting taxable value is then taxed at the employee's marginal Income Tax rate.
You can calculate the impact using our Company Car Tax Calculator.
You can also read our Company Car Tax Explained guide.
Optional Remuneration Arrangements (OpRA)
Salary sacrifice arrangements are affected by Optional Remuneration Arrangements legislation, usually referred to as OpRA.
The OpRA rules were introduced to prevent employees obtaining favourable tax treatment simply by exchanging salary for benefits.
Under OpRA, the taxable value of a benefit may be based on the higher of:
- The cash given up by the employee.
- The normal taxable value of the benefit.
However, low-emission company cars receive special treatment under the legislation.
This is one of the reasons electric vehicles continue to be attractive within salary sacrifice arrangements.
For a more detailed explanation, see our OpRA Guide.
If you are new to salary sacrifice, you may also find our How Salary Sacrifice Works guide helpful too.
Worked Example
Imagine an employee gives up £500 per month through salary sacrifice.
The employee:
- Saves Income Tax on the surrendered salary.
- Saves National Insurance on the surrendered salary.
- Pays Benefit-in-Kind tax on the company car.
If the Income Tax and National Insurance savings exceed the Benefit-in-Kind tax cost, the employee is financially better off than receiving the equivalent amount as salary.
The exact result depends on tax rates, salary levels and vehicle selection.
Our Salary Sacrifice Calculator can help estimate the impact.
When Salary Sacrifice May Not Be Suitable
Although salary sacrifice can be highly effective, it may not be suitable in every circumstance.
Employees should consider:
- National Minimum Wage restrictions.
- The impact on pension contributions.
- The impact on salary-related benefits.
- Future mortgage or borrowing applications.
- Whether they expect to change employer during the agreement.
These issues do not necessarily prevent participation, but they should be understood before entering into a salary sacrifice arrangement.
Salary Sacrifice Tax FAQs
How is salary sacrifice taxed?
Salary sacrifice reduces gross salary before tax. Employees generally pay less Income Tax and National Insurance but pay Benefit-in-Kind tax on the company car provided.
Do I still pay company car tax under salary sacrifice?
Yes. A salary sacrifice vehicle is usually treated as a company car and remains subject to Benefit-in-Kind taxation.
What is Benefit-in-Kind tax?
Benefit-in-Kind tax is the tax charged when an employee receives a company car or other taxable benefit from an employer.
What are OpRA rules?
Optional Remuneration Arrangements rules affect how salary sacrifice benefits are taxed and can require taxation based on the higher of the cash foregone or the normal taxable benefit value.
Why are electric cars tax-efficient?
Electric vehicles generally attract lower company car tax percentages than petrol or diesel cars, resulting in lower Benefit-in-Kind tax liabilities.
Can salary sacrifice affect pension contributions?
It can, depending on how an employer's pension arrangements operate. Employees should check scheme documentation carefully.
Is salary sacrifice suitable for everyone?
No. Employees should consider tax, salary-related benefits, pension arrangements, future employment plans and affordability before joining a scheme.
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