A salary sacrifice arrangement is also commonly referred to as salary packaging or total remuneration packaging. It is an arrangement between an employer and an employee, where the employee agrees to forgo part of their future entitlement to salary or wages. This is in return for the employer providing them with benefits of a similar value.
Importantly, the fringe benefits tax (FBT) rules be carefully considered when assessing salary packaging arrangements. Employers and employees should ensure they are fully informed of the requirements for salary packaging and the FBT rules. Employees in particular need to understand how the salary packaging arrangement may affect them personally.
Requirements for an effective salary sacrifice arrangement
You need to set up a salary sacrifice arrangement with your employer before you start the work. If your arrangement is not put into place until after you have performed the work, it may be ineffective.
Agreement between you and your employer
It is advisable that you and your employer clearly state and agree on all the terms of any salary sacrifice arrangement. We recommend that this is achieved through employer written policies and a contract in writing. If you enter into an undocumented salary sacrifice arrangement, you may have difficulty establishing the facts of your agreement.
Subject to the terms of any contract of employment or industrial agreement, employees can renegotiate a salary sacrifice arrangement at any time. Where you have a renewable contract, you can renegotiate amounts of salary or wages to be sacrificed before the start of each renewal.
The contract of employment includes details of your remuneration, with any salary sacrifice arrangement. Your contract can be varied by agreement between you and your employer.
Note: From 1 January 2020, your salary sacrificed contributions will no longer be considered super guarantee contributions from your employer. For example, if you elect to salary sacrifice 5% into your super, your employer will still be required to pay 9.5% or more of your ordinary time earnings base, including the salary sacrifice amount, into your super to avoid the super guarantee charge.
No access to sacrificed salary
You must permanently forego the sacrificed salary for the period of your arrangement. If a fringe benefit has not been provided and is cashed out at the end of a salary sacrifice arrangement accounting period, the amount cashed out is salary and is taxed as normal income.
Similarly, if you direct your employer to make payments to a third party from salary you have earned (for example, to pay your health insurance premiums, loan repayments, union fees or credit card repayments), these do not constitute an effective salary sacrifice arrangement. These third-party payments are made from your after-tax or net amounts of salary.
Any salary and wages, leave entitlements, bonuses or commissions that accrued before you entered into the arrangement can’t be part of an effective salary sacrifice arrangement.
Types of benefits that can be included
There is no restriction on the types of benefits you can sacrifice. The important thing is that these benefits form part of your remuneration. They replace what otherwise could have been paid as salary.
The types of benefits generally provided in salary sacrifice arrangements by employers include fringe benefits, exempt benefits and superannuation.
Common fringe benefits include:
- Car parking
- Relocation Expenses
- Portable Electronic Devices
- Airline Lounge Memberships
- Expense Payments (such as the payment of your loan repayments, school fees, child care costs and home phone costs).
A number of benefits are exempt from fringe benefits tax (FBT).
The following work-related items commonly provided in salary sacrifice arrangements are exempt benefits:
- A portable electronic device
- An item of computer software
- An item of protective clothing
- A briefcase
- A tool of trade.
The work-related items exemption is limited to:
- Items primarily for work-related use
- One item per FBT year for items that have a substantially identical function, unless the item is a replacement item.
Salary sacrificed super contributions under an effective salary sacrifice arrangement are considered to be employer contributions. These are not fringe benefits when paid for an employee to a complying super fund.
However, super contributions made for the benefit of an associate, such as your spouse, are a fringe benefit. Similarly, contributions paid to a non-complying super fund will be a fringe benefit.
Implications of entering into an arrangement
As an employee, you need to be aware of how entering into a salary sacrifice arrangement with your employer will affect you. For instance:
- You pay income tax on the reduced salary or wages.
- Your employer may be liable to pay FBT on the non-cash benefits provided.
- Your employer may be required to report certain benefits on your income statement or payment summary.
- Your salary sacrificed super contributions are taxed in the super fund and are classified as employer super contributions, rather than employee contributions.
- Your salary sacrificed super contributions cannot be used to reduce the minimum amount of SG your employer needs to pay for you (from 1 January 2020).
Your salary sacrifice contribution is counted towards your employer contributions.
Therefore, salary sacrificed super contributions are generally taxed concessionally at 15% in the super fund.
From 1 January 2020, salary sacrificed super contributions will not:
- Reduce the ordinary time earnings that your employer is required to calculate your super entitlement on
- Count towards the amount of super guarantee contributions that your employer is required to make for them to avoid the super guarantee charge.
Prior to 1 January 2020, your employer could use salary sacrificed super contributions to reduce both the earnings amount your super guarantee entitlement is calculated on as well as satisfying all or part of their compulsory super guarantee contributions for you.
It is advisable that you and your employer clearly state and agree on all the terms of any salary sacrifice arrangement.
You only pay income tax on your reduced salary, but you receive the reduced salary plus the benefits. You can make employee contributions out of your after-tax income. These can be towards the cost of the benefits and reduce any reportable fringe benefits amount.
Under an effective arrangement, your income tax liability should be less than it would have been without an arrangement. However, before entering into a salary sacrifice arrangement you should consider the associated costs. This includes the amount to be sacrificed and any surcharges or obligations from having the benefits reported on your income statement or payment summary.
Salary sacrificing a deductible expense
If your employer pays for an expense, as part of your salary package, which you would normally get a tax deduction for, they will not have to pay FBT on this expense. This is known as the ‘otherwise deductible rule’. If this occurs you will not be able to claim an income tax deduction for this expense in your personal income tax return. This is because the ‘deductible element’ of the expense has been taken into account when your employer calculates the taxable value of the benefit provided to you for FBT purposes.
Fringe benefits tax
If there is any FBT payable on the benefits you received, your employer is liable to pay that tax. Your salary may be reduced by the amount of FBT paid by your employer as part of your salary sacrifice agreement.
Certain employers, such as public benevolent institutions, health promotion charities and public hospitals, will not be liable to pay FBT. That is unless the amount of benefits provided to an individual employee exceeds the relevant threshold.
Reportable fringe benefits
If the total taxable value of certain fringe benefits received by you in an FBT year (1 April to 31 March) exceeds $2,000, the grossed-up taxable value of those benefits will be recorded on your income statement or payment summary for the corresponding income year (1 July to 30 June). Some fringe benefits, called excluded benefits, don’t have to be reported on your income statement or payment summary, although your employer still has to pay FBT on these benefits.
Grossing up reflects the gross salary that you would have to earn to purchase the benefit from after-tax dollars. This is calculated at the highest marginal tax rate, including the Medicare levy. That is, your employer multiplies the taxable value of the benefit by 1.8868.
The value of fringe benefits reported on your income statement or payment summary is known as your reportable fringe benefits amount. You will need to show this amount (or the total of the reportable fringe benefits amounts if you receive more than one payment summary during the year) on your tax return.
This amount is shown on your tax return, but will not be included in your assessable (or taxable) income or affect the amount of basic Medicare levy payable. However, the total will be used to calculate:
- The Medicare levy surcharge
- Deductions for personal super contributions
- The super co-contribution
- Certain tax offsets
- The private health insurance rebate
- Higher Education Loan Program (HELP), Student Financial Supplement Scheme (SFSS), Student Start-up Loan (SSL), ABSTUDY Student Start-up Loan (ABSTUDY SSL) or Trade Support Loan (TSL) repayments
- Your child support obligations
- Your entitlement to certain income-tested government benefits.