There are many ways to allocate your finances when planning for the future and it is always important to try to balance your current and future expenses to ensure you get the most out of your income. Here, we discuss salary sacrifice and how it works in Australia.
What is salary sacrifice?
A salary sacrifice is when a pre-tax portion of your income gets designated elsewhere, often to your superannuation account, but also other places. It is an arrangement made before work is completed, with specifications agreed upon between you and your employer. Think of it as your employer paying for some of your things from your pre-tax salary.
The term ‘salary sacrifice’ can be somewhat misleading, as it suggests the money is permanently gone. More accurately, a salary sacrifice is an agreement between you and your employer which involves you sacrificing some portion of your salary in the present, for benefit in the future.
You may also have heard the terms ‘salary packaging’ and ‘total remuneration packaging’. These are both the same as salary sacrificing.
How does salary sacrifice work?
Your salary sacrifice is in addition to your existing super contribution by your employer and, as such, no part of the mandatory super contributions is affected by the salary sacrifice amount.
There are many things salary sacrificing can be used for, and these vary depending on the employer. It’s often used for superannuation, but also things like cars and electronic devices. It is worth noting, however, that many employers will only allow for salary sacrifice into super. In fact, not all employers offer salary sacrificing.
You can only salary sacrifice after the point the arrangement was agreed to. Any salary earned before the agreement is made cannot be included in salary sacrificing. Additionally, if the agreement has not been officially put into place by the time any work is completed, that work may not be included in the salary sacrifice.
For renewable employment contracts, the specifications of your salary sacrifice arrangement can be renegotiated before each renewal.
If the concessional contributions cap of $27,500 is exceeded some penalties apply.
Who is eligible to salary sacrifice?
Salary sacrificing is available for full-time, part-time and casual employees. Of course, it is always important to consider everything about your financial situation before committing to any arrangement, and for those on lower income, as will be discussed, there are some considerations as to whether it would be worthwhile.
What else can I use salary sacrificing for?
Some employers will cover electronic devices, such as mobile phones or laptops. However, the devices must be portable and be used primarily for work purposes.
Tradesmen often use salary sacrificing to buy their tools for work or even necessary clothing. Some employers even offer salary sacrificing for things like child care and car parking.
The main thing to remember here is if something can be used to help you at work, there is a good chance it is eligible for salary sacrifice. Beyond that, it is just a matter of whether your employer offers particular items or services.
What are the benefits of salary sacrificing?
Salary sacrificing, when done in the most effective way, means more money for retirement. Adding it on top of your existing super can make a significant impact in the future.
Your income tax adjusts to the reduced salary, which means not only a reduction to overall taxes paid, but also potentially a lower tax rate if this moves you into a lower tax bracket. However, the sacrificed salary will be taxed.
A strong benefit of salary sacrificing into your super – and indeed your super in general – is compound interest. The more time your investments have to accrue interest, the more time they have to accrue interest on that interest. Naturally, the more money in your super, the more opportunity for your interest to grow.
It can be a very effective way to make the most out of your income for high earners. Those earning, say, $250,000 a year are usually taxed at 45%, so sacrificing a portion of this could see extreme benefits down the line. The tax rate on the sacrificed portion is significant, and it could earn a large amount of compound interest before you access it in retirement.
Additionally, the above-mentioned benefits aside from super certainly have the potential to benefit you. The possibility of getting benefits straight away is also something that might be appealing.
Another potentially immediate benefit aspect is the fact that your salary sacrifice comes out before going into your account. We all understand how frustrating it can be when a bill or payment comes out of your account when you aren’t expecting it. Salary sacrifice is quite convenient in this sense.
Why you may not want to salary sacrifice
When you salary sacrifice, the reality is you are forgoing the specified income portion in the present. Once the money goes into your super, you are generally unable to access it until retirement, aside from some limited circumstances.
Given the salary sacrifice contributions are taxed at 15%, for those on a lower income, your tax rate might be below this number, and therefore such an arrangement might not be worthwhile. Always remember, the aim of salary sacrificing is to financially benefit yourself as much as possible, and putting yourself in financial hardship in the present will not ultimately be good for you.
Things to consider
It is important to be very clear about your financial situation before entering into a salary sacrifice agreement to ensure your income and expenses are in a comfortable position. Remember, the goal of salary sacrificing is to get the most out of your income, and it serves no purpose to negatively impact yourself in the present.
The value of your super can fluctuate, which is why you should get expert advice and always consider the risks versus benefits of any agreement you might enter into.
It is highly advisable for you and your employer to put any arrangement into writing to ensure all the facts of the agreement are clear.
Once money has been put into your superannuation fund, you usually don’t access it until retirement.
Once the agreement is made official, you cannot access that money until the period of the arrangement is complete.
The yearly concessional contribution cap of $27,500 is something worth considering. If you go over that amount, the tax rate will change.
Seek advice before making a decision
If salary sacrificing is something you are considering, be sure to talk to a financial advisor to help you get the most out of your money.
You most likely now know a lot more about salary sacrificing, however there is always a lot to consider. As we have discussed, salary sacrificing can be highly beneficial for the designation of your finances, but it does not suit all financial circumstances.
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