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How Does the Net Pay Arrangement Pension Work?

An overview of how tax relief is handled through payroll when using Net Pay

The Net Pay Arrangement is one of the two main ways pension contributions are processed for tax relief. It’s widely used by employers and pension providers like Aviva Master Trust.

🧾 What Is a Net Pay Arrangement?

Under this setup:

  • Pension contributions are taken from the employee’s gross salary (before tax)

  • Income tax is calculated after the pension contribution is deducted

  • This gives employees immediate tax relief at their full marginal rate through payroll
    (e.g. basic, higher, or additional rate)

🔍 Net Pay vs. Relief at Source

There are two common pension tax relief methods:

Method Tax Relief Given When Taken From Salary Who Claims the Relief
Net Pay At full tax rate Before tax Automatically via PAYE
Relief at Source Basic rate only After tax Pension provider (from HMRC)
 

If an employee pays higher or additional rate tax under Relief at Source, they’ll need to claim extra relief directly from HMRC.

✅ How It Works in Practice

Let’s say an employee earns £2,500/month and contributes 10% to their pension:

  • £250 (10%) is deducted from gross pay

  • Income tax is calculated on £2,250, not £2,500

  • If the employee is a basic rate taxpayer, they save £50 in tax

  • The employer contributes an additional 4% = £100

  • Total contribution into the pension: £350

This means the employee receives immediate, full tax relief, with no extra steps needed.

🧑‍💼 What Employers Need to Know

  • Net Pay must be set up correctly in your payroll software

  • Contributions are always based on gross pay

  • Payslips will show employee contributions deducted before tax

  • No action is needed from employees to claim tax relief

🔄 What About Non-Taxpayers?

Before April 2024:

  • Employees earning below the personal allowance got no tax relief under Net Pay

From April 2024:

  • HMRC will now top up pensions for non-taxpayers in Net Pay schemes

  • This removes the historical disadvantage compared to Relief at Source

💡 Summary

  • Best for: Higher and additional rate taxpayers

  • Fully automated tax relief — handled entirely through payroll

  • Simplifies administration and improves take-home value for many employees

  • May require a review if your workforce includes many non-taxpayers (now largely resolved by the 2024 change)

📬 Need Help Configuring Your Payroll?

💬 Contact us here and we’ll guide you through Net Pay configuration or help you understand which scheme your provider uses.