David French | 18/02/2009 4:33:28 PM

This article was originally published in The Morning Bulletin in February 2004.

Salary sacrificing involves agreeing with your employer to take some of your salary in non-cash items. Income tax is therefore only paid on the portion of your salary that is cash. The non-tax cash items are received free of income tax. The main idea behind salary sacrificing was to cut the tax-man out of the equation. Unfortunately the introduction of Fringe Benefits Tax (FBT) has made the strategy less attractive.

In the early 1980’s, salary sacrificing was very popular amongst company executives. Employers would pay school fees, rent, groceries and for lavish entertainment on behalf of executives. No income tax was paid on these benefits. As a consequence the ATO introduced FBT – currently at the top marginal income tax rate of 48.5 per cent.

The FBT rate applies regardless of your income tax rate, so someone on a 31.5 per cent tax rate would be silly to salary sacrifice for something to which full FBT applies. For someone on the top rate there is no cash benefit and probably administrative costs. The secret in successful salary sacrificing lies in knowing where the FBT concessions lie. The concessions comprise two types – tax related and award related.

Let’s look at award related opportunities first. Some employers, including religious institutions, foreign government representatives and public benevolent institutions (including public hospitals) are exempt from FBT. In this case an employee could receive the fringe benefits free of any tax at all. As an example, an employee could agree to cut their salary from $45,000 to say $36,245, and take $8,755 as goods in kind. That would save tax of $2,757 - handy work if you can get it. If your employer offers such a scheme, its best to use the salary sacrifice to pay for non-tax deductible everyday expenses like mortgages, groceries and utilities.

Tax related concessions are available to anyone whose employer offers salary sacrifice arrangements. Salary sacrificing to superannuation involves swapping your marginal tax rate for the superannuation tax rate. Subject to the restrictions of superannuation, this might be a good idea if you earn more than $21,600. Beyond that, salary sacrificing opportunities are generally only available for goods that you could have claimed a tax deduction for anyway. A rare exception applies to laptop computers. If the computer is used for income generating purposes, then purchasing it through a salary sacrifice essentially means that the tax deduction is claimed in one year, rather than through depreciation over a number of years.

Some readers will argue that salary sacrificing for a motor vehicle is sensible. The widespread practice of purchasing a motor vehicle through salary sacrificing is based on something called the statutory formula. The formula assumes that the more kilometers you do, the more of it is work related. FBT does not apply to the work related component. This method is simple in its calculation, and works best for individuals who travel a large number of kilometers annually, and who are on a high income tax rate. There are two points to be made here. First, if in the future, the ATO insists that you are using the car for work purposes at least some of the time, then they may disallow use of the statutory formula for people who have the car only for personal use. In that case you could be stuck with paying FBT on an expensive lease. Second, there are lots of tax deductions available for people who use their car for work purposes. If however, no tax deductions are available, a good rule is to pay cash for a depreciating asset like a car. Use debt (as in a lease) to fund assets that are likely to appreciate in value and for which the interest is tax deductible – like an investment property or portfolio.

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