Article

Pension tax – local options for affected staff

Understand the local arrangements employers can put in place to support our NHS people with pension tax issues to continue to work.

5 August 2020

Employers can adopt a flexible reward offer to support staff impacted by annual and lifetime allowance issues and to help protect the delivery of clinical services.

By working collaboratively with employees and trade union representatives, employers can implement appropriate local solutions to support staff who are affected by pension tax. These local measures would be complementary or in addition to national contracts and the pension scheme regulations.

The local options available for employers to consider are outlined on the below pages. These include options for individuals wishing to remain in the scheme as well as those that decide to opt out.

Employers should take appropriate advice and have assurance that such agreements are lawful and based on strong justifications. Any local agreements, including those that have previously been put in place, should be reviewed regularly to ensure that they remain relevant and in the best interests of both employers and employees.

The five options are detailed below.

  • Employers have the option of using any unused employer contributions to make an additional pay offer to individuals that opt out of the NHS Pension Scheme or reduce their pensionable pay due to pension tax concerns. This is often referred to as recycling employer contributions.

    The NHS Pension Scheme is a key part of the reward offer for employees in the NHS. Recycling unused employer contributions may be considered necessary to recognise the fact that staff who have opted out of the scheme due to pension tax issues will not get the full value of benefits from their employer’s pension contribution in comparison to other colleagues. These payments are one way to restructure the employee’s total reward package in order to maintain its value.

    However, employers also have an obligation to ensure that staff are not incentivised to leave the NHS Pension Scheme. Before offering these payments, employers should carefully consider the balance between enabling staff to save for their retirement and current recruitment and retention needs.

    Employers are under no obligation to offer unused employer contributions as additional salary. However, discretion may be used for employers to work with employees and trade union representatives to design and agree local policies.

    Below are the key considerations for employers before implementing this arrangement:

    Eligibility and scope

    Employers will need to decide locally, being mindful of affordability pressures, which members of staff would have access to the additional salary payments. The payments may be considered in circumstances such as:

    • Where an employee has opted out of the NHS Pension Scheme for the full scheme year for tax reasons.
    • The period where an employee has opted out of the scheme for part of the scheme year for tax reasons.
    • Where the employer and employee have agreed that an element of pay is no longer pensionable for tax reasons.

    Employers will also need to consider the position of staff who have already opted out of the NHS Pension Scheme due to tax reasons.

    It will be important to take appropriate legal advice and carry out an equality impact assessment to clearly set out the objective justification of any policy. This is particularly relevant around any limiting eligibility of the arrangements to certain staff groups or if the policy disproportionately impacts on groups with protected characteristics.

    Employer contribution rate

    The employer contribution rate increased in April 2019 to 20.6 per cent of pensionable pay from 14.3 per cent, plus a 0.08 per cent scheme administration levy.

    The government agreed to provide funding for employers to initially cover this increase in cost. An interim funding arrangement has been put in place for the 2019/20 and 2020/21 financial years, with the additional 6.3 per cent being paid directly to the NHS Pension Scheme from NHS England and NHS Improvement.

    Employers do not currently have access to this additional 6.3 per cent of contributions. If employers offer to pay employer contributions above 14.38 per cent to staff as salary, this will represent a cost pressure to employers whilst this interim funding arrangement is in place.

    Employers should review the level of payments provided to staff at least annually, to take into account any future changes to the employer contribution rate and funding arrangements.

    National insurance contributions

    The payment of additional salary in lieu of scheme membership will lead to an increase in the cost of the employer National Insurance contributions (NICs) payable in respect of the individual. This increase is approximately equal to 13.8 per cent of the value of any additional salary payments and should be taken into consideration when calculating the amount paid to an employee in order to keep this cost-neutral.

    The below table illustrates how employers can pay up to 14.38 per cent of an individual’s pensionable pay to staff as additional salary on a roughly cost-neutral basis, taking into account the increase in employer NICs.

     

    Member of the NHS Pension Scheme

    Employee who has opted out receiving 14.38% of additional salary

    Pensionable earnings

    £100,000

    £100,000

    Amount paid to NHS Pensions from the employer (14.38%)

    £14,380

    £0

    Additional employer NICs*

    £0

    £1,744

    Net amount paid to employee in lieu of pension

    £0

    £12,636

    Total employer cost

    £114,380

    £114,380

    *In this simplified example, the increase in employer NICs has been calculated based on a flat rate of 13.8 per cent. In reality, employer NICs are only payable in respect of earnings above the secondary threshold and so the correct value of the employer NICs would be slightly lower than shown in the example. Please see the HMRC website for more information.

    Creating a policy

    Any local policies agreed should clarify the following points:

    • The employer has the discretion to review, amend or remove the policy at any time through consultation and using appropriate notice periods.
    • The arrangement does not form any contractual entitlement.
    • Employees are strongly encouraged to take independent financial advice to assess if ceasing contributions to the NHS Pension Scheme is appropriate. Employers are not able to give advice directly or recommend any particular independent financial adviser, however staff can be signposted to our list of independent financial advisors.
    • In order to request payment of employer contributions in place of pension scheme membership, employees must provide evidence that they are affected (or about to be affected) by the annual allowance or lifetime allowance.
    • Employees should be aware of the impact on their death in service and ill-health retirement benefits if they are no longer making payments towards their pension. If an employee were to pass away or retire due to ill health whilst not in the scheme, a lower level of benefits would be payable. This is outlined in our briefing document [[Death-in-pensionable-membership-April-2020.pdf]] and further information is available on the NHS Pensions website. Individuals may wish to consider setting up alternative cover away from the NHS Pension Scheme.

    Governance

    Any response to a request for additional salary should be considered as part of a formal process that has been approved by the board of directors and overseen by the remuneration committee.

    Timing of the payment

    The payment of employer contributions as additional salary may take place alongside an arrangement where employees opt out of the scheme for only part of the year. In this case, employers may agree to wait until the end of the scheme year to make the payment once the value of unused employer contributions over the year is known. This could be given to employees as a one-off, non-consolidated lump sum.

  • Determining certain elements of pay as being non-pensionable may help staff to limit the value and rate of their pension growth. Individuals with lower pensionable pay will build up a lower pension and will be less likely to breach the annual and lifetime allowances.

    Employers have some flexibility in determining what pay is pensionable, depending on the nature and duration of the payment.

    Pensionable and non-pensionable pay

    Employers must comply with the NHS Pension Scheme regulations that define pensionable earnings. For staff employed by NHS organisations, pensionable earnings are broadly all salary, wages, fees and other regular payments. 

    Non-pensionable payments include bonuses, non regular payments, payments made to cover expenses or overtime and pay awards or increases which are expressed by the Secretary of State to be non-consolidated.

    Further information about which payments are pensionable and non-pensionable is available on the NHS Pensions website.

    Potential flexibilities in determining pensionable pay

    Pension tax matters are very specific to the varying circumstances of each individual and the nature of the payment. We would therefore encourage employers to discuss pensionable pay arrangements with staff individually to reach an appropriate agreement.

    Employers may wish to discuss the existing flexibilities around the following payments:

    Temporary payments

    Most temporary payments are non-pensionable. Exceptions include temporary pay increases and shift allowances.

    Local payments

    Most local payments can be determined as non-pensionable. Payments in national contracts such as London weighting are pensionable.

    One-off payments

    Employers may wish to explore options to establish one-off bonus payments in recognition of the completion of additional activity.

    Overtime

    All overtime payments are non-pensionable for full time staff. Overtime for part time staff is pensionable up to the whole-time standard week if paid at the basic hourly rate.

    Additional programmed activities (PAs)

    Additional PAs which exceed the standard contractual limit of 10 are non-pensionable. Employers should ensure job planning processes and any supporting documentation clearly sets out that additional PAs are over and above the standard contract and are subject to regular review.

    Allowances for undertaking management responsibilities

    Payments will be pensionable if the management responsibility is linked to one of the 10PA’s in a consultant’s job plan or if the responsibility is taken on in addition to the job plan but without any additional time being allocated to this work. Payments also need to be made on a regular and continuing basis to be pensionable. This applies to both part-time and whole-time employees.

    Allowances will be non-pensionable if they are linked to a non-pensionable PA that exceeds the standard contractual limit of 10 or if they are temporary and subject to review. Employers may wish to bear this in mind when working with individuals to agree their job plan.

    If additional management responsibilities increase actual working time above 40 hours per week, this extra time worked will also be non-pensionable.

    If part-time staff are required to work additional PAs due to the additional responsibility, these PAs will be pensionable up to whole-time, but anything above this will be non-pensionable.

    Waiting list initiative (WLI) payments

    Additional paid waiting list activity that is voluntary and in addition to contracted hours is a form of overtime and is pensionable up to whole-time. WLI payments should be non-pensionable if the activity exceeds whole-time or if the payment is made as a one off bonus.

    Weekend and on-call payments

    Availability allowance for on-call work is only pensionable if there is a specific rota commitment that an individual is paid for on a regular basis. This applies to both part-time and whole-time employees. Payments for work completed above whole-time whilst on call are non-pensionable.

    Local Clinical Excellence Awards (LCEAs)

    New LCEA payments made from 1 April 2018 are non-pensionable, as they are non-consolidated and re-earnable, whereas existing LCEAs will remain pensionable until at least 31 March 2021. There is scope for employers to convert existing LCEAs into new LCEAs by agreement with the employee and the Joint Local Negotiation Committee (JLNC).

    Any measures that are put in place should be reviewed regularly to ensure the arrangements remain appropriate for the individual and the employer. We would advise that employers set a review date when agreements are made.

    Key considerations for employers

    Annual allowance taper

    Non-pensionable payments count towards an individual’s threshold income and adjusted income, which determine whether the employee will have a lower, tapered annual allowance. See our annual allowance briefing for more information about the tapered annual allowance.

    Impact on benefits in retirement

    Limiting pension growth by reducing pensionable earnings will lead to lower pension benefits in retirement.

    Income tax

    Members should be aware that they will pay more income tax on their salary due to paying lower pension contributions. This may be offset by a reduction in an annual or lifetime allowance tax charge.

  • Some employees are choosing to manage their pension growth by opting out of the NHS Pension Scheme for a period of time throughout the scheme year and then returning to the scheme.

    This approach allows individuals to build up a lower value of pension benefits over the scheme year to mitigate annual allowance and lifetime allowance issues.

    Key considerations for employers

    Independent financial advice

    We would strongly recommend that employees take independent financial advice before opting out of the NHS Pension Scheme. Employees will need advice to understand the optimum value of pension they should earn during the year and the precise point at which they should opt out and re-join the scheme. Members should also be aware that they will pay more income tax on their salary due to paying lower pension contributions. This should be considered in conjunction with the value of pension gained and any benefit from lower annual allowance tax charges.

    Family protection benefits

    Employers should ensure staff are aware that they will not be covered for death in service and ill-health benefits provided by the NHS Pension Scheme during the part of the year in which they are not an active member of the scheme. If an employee were to pass away or retire due to ill health during a period where the employee had opted out of the scheme a lower level of benefits would be payable. This is outlined in our briefing document and further information is available on the NHS Pensions website. Individuals may wish to consider setting up alternative cover away from the NHS Pension Scheme.

    Recycling employer contributions

    Employers will need to consider if any unused employer contributions could be used to fund an increase in salary. Refer to the section above on paying unused employer contributions as additional salary.

  • Employers may wish to offer staff time off in lieu (TOIL) instead of pay to reduce pensionable income and therefore pension growth. Reducing overall income could particularly help staff who are potentially affected by the annual allowance taper.

    This is a useful measure to help employers redistribute capacity to ease pressures on service during exceptionally busy periods. However, it does not directly increase the available capacity for service delivery.

    Implementing this measure

    This arrangement could be put in place to cover different timescales, depending on particular situations. For example, a consultant may work additional activity to support the trust with additional service pressures over the winter period and take the time back during less critical periods within the same financial year.

    Additional time worked could also be recorded and banked to allow staff to save up TOIL over a number of years. The time saved could be used to take longer periods of leave, such as a sabbatical or career break, at the end of the employee’s career before retirement, or to support a period of part- time working.

    The precise details of the policy, including the amount of TOIL to be provided to staff instead of pay, should be discussed and agreed locally.

    Key considerations for employers

    Impact on service delivery

    The impact on service delivery and future affordability will need to be considered, such as the preferred times during which staff could take back their time with minimal impact on service delivery. Additional considerations would need to be made about staff potentially taking TOIL during periods of urgent clinical need.

    Recording the additional time worked

    Relevant systems should be put in place to record any additional time that is worked. Organisations may decide to set a limit on the amount of time that can be carried forward.

    Taking time back

    Employers should consider how they will enable time to be taken back. It may be beneficial to discuss and agree this with the individual before the additional time is worked.

    Accounting implications

    Employers may need to ensure that any TOIL carried over into a new financial year is recognised in the organisation’s financial accounts.

  • Employees with multiple contracts of employment can opt out of the NHS Pension Scheme for one or more of their employments to reduce the value of pension benefits built up over the year.

    For full-time employees, employers have the option to split the full-time contract into two part-time contracts.

    The distribution of pensionable and non-pensionable pay across both contracts can be varied to manage pension growth. Both the ESR payroll system and the scheme regulations are already set up to deal with employees with multiple part-time employments.

    Unlike the approach of opting out of the scheme for part of the year, this option has the advantage of retaining the death in service and ill-health retirement cover provided by the NHS Pension Scheme for the whole scheme year, as the employee will still be a member of the scheme in at least one of their contracts. However, any benefits would be at a lower level, based on the part-time salary.

    Key considerations for employers

    Contract management

    Employers should be aware of the potential practical issues of having to manage different contracts. The employer may need to close the existing contract of employment and issue two or more new separate contracts of employment. The potential impact that termination of one contract (e.g. due to redundancy or disciplinary purposes) may have on the other contract should also be considered.

    Opting out of the scheme

    The process of opting out is still required under the regulations as contracts of employment are always pensionable. Employers will also need to follow ongoing automatic re-enrolment requirements.

    Reduction in pension growth

    For members of the 1995/2008 NHS Pension Scheme, benefits are calculated based on service and whole-time equivalent final pensionable pay. This approach would therefore reduce service, but not final pensionable pay, meaning pension growth will be restricted but perhaps not to the full extent the member may be expecting. For members of the 2015 Scheme, benefits are calculated based on actual earnings so the restriction in pension growth would be more pronounced.

    Income tax

    Members should be aware that they will pay more income tax on their salary due to paying lower pension contributions. This may be offset by a reduction in an annual allowance tax charge.

    Final pay controls

    Employers may wish to seek guidance from NHS Pensions about whether a final pay control charge will be incurred if the employee reverts to their original contract before retirement.