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HMRC internal manual

Employment Income Manual

HM Revenue & Customs
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Salary sacrifice: conditions for successful sacrifice: right to revert to original salary

Section 62 ITEPA 2003

For a summary of the conditions that have to be met for a successful salary sacrifice see EIM42760.

Under contract law and employment law, the terms and conditions of an employment contract may be varied as often as the parties to that contract, that is the employee and the employer, choose. A contract can be legally effective for a stated period of time. HMRC’s interest is in the tax and NIC consequences of that employment contract.

Even though an employment contract has been effectively changed in terms of contract and employment law it is possible that certain factors within the contract may have unintended consequences for the tax and NICs treatment of elements of the remuneration package. The contract may specify a salary and the provision of benefits. It is common for the benefit in salary sacrifice arrangements to have advantageous tax and/or NICs treatment. The remuneration package may be designed to exploit the statutory advantage. However, if the employee is able to give up the benefit at any time and return to the original higher cash salary then as he can convert the benefit into cash, that benefit has “money’s worth” for the purposes of income tax. Money’s worth is earnings under S62 ITEPA 2003. The employee is therefore liable on the higher cash salary. (See EIM42753 and EIM42755). The position is different for NICs and liability will always be determined according to what is actually received by the employee. See NIM02330 for further guidance.

The right to return to the original contract or to opt out of the contract variation may be stated in the new contract. The right to return to the original contract may be inferred in that the variation to the contract is time limited and at the end of that time, the variation will stop and the original contract be reinstated. The employer may have told the employee that the original salary will be reinstated when the choice is made to stop receiving the replacement benefit.

If the variation of the original contract is for a period of less than 12 months, refer the scheme to the Employer Support Team. If the variation is for 12 months or more then it may be accepted that the Heaton v Bell principle is not to be applied. It follows that where the contract variation is for 12 months or more then it is accepted that the convertibility of the benefit does not have money’s worth. (See EIM01142 which explains the circumstances in which the Heaton v Bell principle does not apply. See also EIM42755 which lists benefits that are exempt from income tax and fall outside of the Heaton v Bell principle.)