Lee Mannion | Tuesday 17th May, 2022
For employers, the amount you'll need to contribute into a workplace pension scheme is based on the pensionable earnings of your employees.
There are three ways you can calculate pensionable earnings. In this article, we’ll explain the differences between them and the impact this can have on your pension contributions and tax efficiency.
Pensionable earnings helps you as an employer work out how much to pay into your employee's pension.
It refers to the portion of their salary you'll use to calculate how much you need to contribute.
When discussing employer pension contributions, you may come across the phrase 'qualifying earnings' - although in reality qualifying earnings is only one method of calculating pensionable earnings. More on that shortly.
Currently, companies and employees need to contribute at least 8% to auto enrolment pension schemes.
There are 3 ways you can calculate how much of your employees' earnings are eligible for employer pension contributions.
Depending on the method you use to calculate pensionable earnings, the employer and employee contribution figures will vary.
Which approach you use is completely up to you - all are officially recognised by HMRC.
The basic pay approach uses the employee's base salary or wages, including holiday pay. However, the calculation excludes additional earnings such as overtime or bonuses.
Often used for defined benefit pension schemes, qualifying earnings only apply to the portion of an employee's earnings between £6,240-£50,270. This can include:
Calculations involve all income earned in employment, minus dividend payments. This includes all the additional earnings listed above.
The worked example below demonstrates how each of these approaches impacts your total employer contributions.
This example is based on an employee earning an annual salary of £38,000 with a £2,000 bonus.
Under the basic pay method, the bonus is excluded. The employer contributes £1,140 and the employee contributes £1,900 to the scheme.
For qualifying earnings, £6,240 is subtracted from the total earnings (£40,000), leaving £33,760 as the pensionable earnings. The employer contributes £1,012.80 and the employee contributes £1,688 to the scheme.
Finally, for total earnings of £40,000, the employer contributes £1,200 and the employee contributes £2,000 to the scheme.
For any contributions made to a workplace pension scheme using a net pay approach (before tax), the amount of tax paid on earnings will be calculated on the lower amount.
This means you won’t pay any income tax or National Insurance on your pension contributions. Opting to use a salary sacrifice pension scheme could help reduce tax obligations even further.
Whether you choose basic pay, qualifying earnings or total earnings, you should ensure that your method for calculation lines up with your payroll software.