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Salary Sacrifice

Salary sacrifice (also known as salary packaging or total remuneration packaging) is an arrangement between an employer and employee where the employee agrees to forgo part of their future salary or wages in return for benefits of a similar value. 

In Australia, this arrangement must be established before the employee earns the income, and is commonly used to increase superannuation contributions or obtain other benefits such as motor vehicles, electronic devices, or childcare in a tax-effective manner. 

The tax treatment varies depending on the benefit being packaged, with some items subject to Fringe Benefits Tax (FBT) while others, such as superannuation contributions, may offer significant tax advantages.

Definition and legal framework

What constitutes salary sacrifice

A legitimate salary sacrifice arrangement requires:

  • A prospective agreement before the employee earns the income
  • Documented agreement between employer and employee
  • Genuine reduction in salary in exchange for benefits
  • Benefits must be permissible under Australian tax law
  • Employer must be willing to offer salary sacrifice arrangements

Regulatory framework

Salary sacrifice arrangements operate within several legal frameworks:

Employer participation

Salary sacrifice is not mandatory for employers:

  • Employers can choose whether to offer salary packaging
  • Some employers limit the benefits that can be packaged
  • Public sector and not-for-profit organisations often have extensive packaging options
  • Private companies may restrict packaging to superannuation only
  • Some employers outsource salary packaging administration to third-party providers

Common salary sacrifice benefits

Superannuation contributions

One of the most tax-effective salary sacrifice arrangements:

  • Contributions are taxed at 15% in the super fund (instead of marginal tax rates)
  • Reduces taxable income of the employee
  • Counts towards employer’s superannuation guarantee obligations
  • Subject to concessional contributions cap ($27,500 for 2023-24)
  • Can significantly enhance retirement savings
  • Bring-forward provisions for unused cap amounts from previous years

Motor vehicles

Popular but complex benefit to package:

  • Novated lease arrangements are most common
  • Three-way agreement between employer, employee, and finance company
  • Can cover lease payments, running costs, and maintenance
  • Subject to Fringe Benefits Tax (FBT)
  • Statutory formula method for calculating FBT liability
  • Can be advantageous for high-kilometre users

Electronic devices

Work-related devices may be FBT exempt:

  • Laptops, tablets, mobile phones, etc.
  • Must be primarily for work purposes
  • Limited to one device of each type per FBT year
  • Not subject to FBT if they qualify for exemption
  • Particularly beneficial for higher-income earners

Other common benefits

Various items can be salary packaged:

  • Remote area housing benefits
  • Airport lounge memberships
  • Professional memberships and subscriptions
  • Work-related education expenses
  • Relocation expenses
  • Childcare fees (though subject to FBT)
  • Car parking (subject to FBT but with possible exemptions)

Tax implications

Fringe Benefits Tax (FBT)

Many salary packaged benefits attract FBT:

  • Paid by the employer at a rate of 47% (2023-24)
  • Can be passed on to the employee in the packaging arrangement
  • Calculated on the ‘grossed-up’ value of the benefit
  • FBT year runs from 1 April to 31 March
  • Different valuation methods depending on benefit type
  • Significantly impacts the effectiveness of salary packaging

FBT exemptions and concessions

Certain benefits receive preferential FBT treatment:

  • Work-related items (portable electronic devices, software, protective clothing)
  • Minor benefits (under $300 and infrequent)
  • Not-for-profit sector concessions (capped exemption or rebate)
  • Remote area concessions
  • Temporary accommodation benefits in certain circumstances
  • On-premises childcare facilities

Impact on income tax

Salary sacrifice affects assessable income:

  • Reduces the employee’s taxable income
  • May lower the employee’s marginal tax rate
  • Can reduce Medicare Levy and Medicare Levy Surcharge
  • May impact income-tested government benefits and obligations
  • Affects HELP/HECS debt repayments
  • Reduces the base for superannuation guarantee calculations

Reportable fringe benefits

Most fringe benefits must be reported on payment summaries:

  • Appears as Reportable Fringe Benefits Amount (RFBA)
  • Grossed-up taxable value (Type 1 gross-up rate)
  • Not included in taxable income but used for income tests
  • Affects various government payments and obligations
  • Impacts family assistance, child support calculations
  • Considered for Medicare Levy Surcharge and Private Health Insurance rebate

Special arrangements for specific sectors

Not-for-profit organisations

Significant FBT concessions available:

  • Public Benevolent Institutions (PBIs) – $30,000 FBT exemption cap
  • Health Promotion Charities (HPCs) – $30,000 FBT exemption cap
  • Public and not-for-profit hospitals – $17,000 FBT exemption cap
  • Makes salary packaging highly attractive in these sectors
  • Commonly includes everyday living expenses (mortgage, rent, credit cards)
  • Meal entertainment and venue hire may have separate caps

Public sector

Government departments and agencies often offer:

  • Structured salary packaging programs
  • Superannuation contribution schemes
  • In-house benefits
  • Various allowances and packaged items
  • Notebooks and other work-related items
  • May have agency-specific policies and restrictions

Small businesses

Considerations for smaller employers:

  • Administrative burden may be higher
  • May limit offerings to superannuation only
  • Potential cash flow implications for FBT payments
  • Cost-benefit analysis important before implementing
  • May use third-party administrators to reduce complexity

Setting up salary sacrifice arrangements

Documentation requirements

Proper documentation is essential:

  • Written agreement before the income is earned
  • Clear specification of benefits and amounts
  • Details of any employee reimbursement of FBT
  • Review dates and amendment provisions
  • Signed by both employer and employee
  • Compliant with ATO requirements

Timing considerations

When arrangements can be established:

  • Must be prospective (before income is earned)
  • Cannot sacrifice income already earned
  • Best established at the beginning of a financial year
  • Can be reviewed and adjusted periodically
  • May be affected by pay cycle timing

Administration processes

Managing ongoing arrangements:

  • Payroll system configuration
  • Regular reconciliations
  • FBT return preparation
  • Payment summary reporting
  • Record-keeping requirements
  • Third-party administrator interfaces

Advantages and disadvantages

Benefits for employees

Potential advantages include:

  • Tax savings through reduced taxable income
  • Access to employer buying power
  • GST savings on packaged items
  • Convenience of pre-tax payments
  • Enhanced superannuation contributions
  • Budgeting assistance through regular deductions

Benefits for employers

Employers may gain:

  • Enhanced employee remuneration packages without increased costs
  • Improved attraction and retention of staff
  • Competitive advantage in recruitment
  • Potential salary cost reductions in not-for-profit sector
  • Alignment with industry standards
  • Employee satisfaction and engagement

Limitations and risks

Potential downsides include:

  • Administrative complexity
  • FBT costs may outweigh benefits
  • Reduced superannuation guarantee contributions if not managed properly
  • Impact on income-tested government benefits
  • Potential for ATO scrutiny of arrangements
  • Risk of legislative changes affecting arrangements

Common misconceptions

Salary sacrifice vs. Reimbursement

Important distinctions:

  • Salary sacrifice must be agreed before earning the income
  • Reimbursements are payments for expenses already incurred
  • Different tax treatments and documentation requirements
  • Cannot retrospectively convert reimbursements to salary sacrifice

Impact on Superannuation Guarantee

Potential pitfalls with superannuation:

  • Reducing cash salary reduces the base for employer SG calculations
  • Employers can calculate SG on pre-sacrifice salary (but not required)
  • Salary sacrificed super counts towards employer SG obligations
  • Important to specify treatment in salary sacrifice agreement

Post-tax vs. Pre-tax contributions

Different approaches to superannuation:

  • Salary sacrifice is pre-tax (concessional contributions)
  • Personal after-tax contributions may be eligible for government co-contribution
  • Different contribution caps apply
  • Different tax treatments within the super fund
  • Different withdrawal conditions may apply

Recent changes and developments

Legislative updates

Recent and pending changes:

  • Super Guarantee rate increased to 11.5% from July 2024
  • Concessional contributions cap indexation
  • Changes to work-related item FBT exemptions
  • Electric vehicle FBT exemptions
  • Simplified car parking benefit valuations
  • FBT return digitisation

COVID-19 impacts

Pandemic-related considerations:

  • Work-from-home arrangements and FBT implications
  • Changes to vehicle usage patterns affecting novated leases
  • Temporary remote working benefits
  • ATO guidance on pandemic-related benefits

Future outlook

Potential developments to monitor:

  • Ongoing superannuation reforms
  • FBT simplification proposals
  • Digital reporting requirements
  • Sustainability incentives and related benefits
  • Changes in workplace flexibility and related benefits

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