SE01141 - Emoluments of employees and office holders: flexible benefit plans: contractual reduction in gross pay

As SE01140 suggests, the first point to look at in relation to a flexible benefit plan is: do the arrangements amount to a reduction in the amount of the cash pay that the employee is contractually entitled to receive?

If the answer to that question is yes, the employer need only operate PAYE, and account for NICs, on the reduced contractual pay. The benefits in kind which the employee receives will be taxed under Section 19(1)1 or under Part V Chapter II, as appropriate (see SE01142). From 6 April 2000 employers will also have to account for Class 1A NICs on most benefits in kind.

If the answer is no, the employer should continue to operate PAYE, and account for Class 1 NICs, on the original gross pay. The amount deducted from the employee's pay in respect of the benefits (net of tax and NIC) is simply an amount "made good" by the employee which will be taken into account in calculating the cash equivalent of the benefits (see SE21120).

So how do you know if there has been an effective reduction in the employee's contractual pay? There is guidance on dealing with "salary sacrifice" arrangements atSE42750 onwards.

Whether or not there has been an effective salary sacrifice (as distinct from a deduction from the employee's gross pay) depends on the nature of the agreement between the parties. This is a question of contract law, not tax law. In order to decide the point you will need to obtain a copy of all the relevant documentation, including

• the employee's contract of employment as it appeared both before and after the employee entered the scheme
• the scheme documentation, and in particular any "options" form which the employee is required to complete
• a copy of an employee's payslip for a month before, and a month after, the employee entered the scheme.

If when you have obtained that information you are in any real doubt whether there has been an effective reduction in the employee's contractual pay, send the papers to Employment Income Technical for advice. Please set out your submission in the way described at ADM6.109.