When you auto-enrol your employees into a workplace pension scheme as an employer, the UK government sets minimum levels of contributions that both you and your employees must pay. So, how is this bare minimum calculated? This is based on a figure termed variously pensionable earnings’ or ‘pensionable pay; however, there are several ways to calculate this value. We’ll go over how to do that in this section.
What are Pensionable Earnings?
Employers in the United Kingdom are required to automatically enrol their employees in a workplace pension scheme. Both employers and employees are required to contribute at least the minimum amount, which is set at 5% of employees’ income and 3% of employers’ compensation.
The point is, what exactly constitutes ‘pay’ for the purposes of this calculation? The figure used to calculate these amounts is known as ‘pensionable earnings,’ and it does not necessarily comprise all of the employee’s earnings in that year (though it may).
The earnings that are used to calculate a member’s pension contributions are referred to as their ‘pensionable earnings.’ Pensionable earnings typically include:
- your regular paycheck or wages
- bonuses
- overtime (both contractual and non-contractual)
- Maternity, paternity, adoption, and shared parental leave are all covered by parental leave.
- allowance for shift work
- Payments for additional hours worked if you work part-time
- Any additional taxable benefit listed as pensionable in your contract
You make no contributions to:
- any allowances for travel or sustenance
- in lieu of notice, pay
- compensation in place of vacation days
- the payment as a deterrent to leaving before the payment is made.
- any payment made for the goal of obtaining equal pay (other than payments representing arrears of salary)
- Compensation for the loss of future pensionable income or perks
- Your pay if you go on reserve force service leave.
- the monetary value of a car or the cash received in exchange for a car
- any sum for which no tax liability has been determined
This is sometimes referred to as a ‘pensionable salary.’
So an employer’s (or their accountant’s) first task is to calculate the employee’s pensionable earnings. There are three basic ways to accomplish this, which we will discuss further below.
What are Qualified Earnings?
One technique of estimating pensionable earnings is through qualifying earnings. They are typically employed in defined benefit plans, but they are also used in many defined contribution plans. The next section explains how this method, as well as the other two, functions.
When the Qualifying earnings basis is utilised, what are the pensionable earnings?
If an employer has opted to calculate pension contributions using the qualifying earnings basis, the pensionable earnings are based on the difference between the upper and lower-level earning thresholds. This is also known as ‘banded earnings.’
For example, if an employee earns £5,000 per month, the lower earnings barrier of £520 (*for the fiscal year 2021/2023) is deducted, while any earnings beyond the upper earnings threshold of £4,189 are ignored. In this case, the pensionable earnings on which pension contributions should be calculated are £3,669.
What if the employee’s monthly earnings are less than the upper earnings limit?
If an employee instead made £3,000 per month, only the lower earnings level of £520 would be deducted from their monthly earnings. This is due to their earnings falling below the higher earnings limit. The earnings on which pension contributions should be based in this example are £2,480.
When the pensionable earnings basis is utilised, what are the pensionable earnings?
The earnings thresholds do not apply if an employer uses the pensionable earnings basis to calculate members’ pension contributions. Pension payments are calculated based on earnings, which typically comprise salary or wages but may exclude variable sums such as commissions, bonuses, and overtime. Unless the employer has opted to base calculations on total earnings, this should include at least basic pay. If total earnings are used, all components of pay should be considered when calculating pension calculations.
When the entire earnings basis is applied, what are the pensionable earnings?
If an employer has opted to calculate pension contributions on a total earnings basis, all components of pay must be included.
When you auto-enrol your employees into a workplace pension scheme as an employer, the UK government sets minimum levels of contributions that both you and your employees must pay. So, how is this bare minimum calculated? This is based on a figure termed variously pensionable earnings or ‘pensionable pay; however, there are several ways to calculate this value. We’ll go over how to do that in this section.
How can I Calculate my Pensionable Earnings?
Pensionable pay/earnings is often calculated in one of three ways:
#1. Basic salary
For defined contribution pensions, the most frequent method of calculation is basic pay. In this technique, pensionable earnings are equal to the employee’s base pay minus any bonuses, overtime, or commission.
#2. Qualifying Earnings
Qualifying earnings are a slice of an employee’s income, which is currently fixed at a range of £6,240 to £50,000 and includes all types of payment, including bonuses and commissions. This strategy is most typically applied to defined-benefit pension plans.
#3. Total Earnings
Total earnings are simply all of the money earned in one job, including pay, bonuses, commissions, and so on. The only thing that does not count is dividend income.
So, depending on the approach you pick, both your employer contribution and the employee contribution will be based on one of the aforementioned values.
What happens if an Employee’s Pensionable Earnings fall below the limit?
An employee must be between the ages of 22 and state pension age and earn at least £10,000 per year to be auto-enrolled. Although you are not required to auto-enrol them, they do have the ability to request access to a pension programme. If they do, you’ll need to make plans for them to attend. You are not forced to contribute in this scenario, but you may do so if you so choose.
How do I auto-enrol employees who exceed the eligibility threshold?
You can still auto-enrol employees if their qualifying earnings exceed the threshold if you use the qualifying earnings mechanism. You’ll just disregard any earnings in excess of £50,000. If an employee makes £60,000 per year, their eligible earnings are limited to £43,760 (£50,000–£6,240).
There will be no upper limit to their pensionable earnings if you use the total earnings approach, other than the employee’s yearly pension allowance or lifetime allowance.
As an employer, you are now required by law to automatically enrol your employees in a workplace pension system. Contributions must meet minimal levels in order to be legally compliant, and they will represent figures known as ‘pensionable earnings’ or ‘pensionable pay.’
Examples of Pensionable Earnings Calculations
The examples below are based on the assumption that minimal contributions are made (3 percent for the employer, and 5 percent for the employee). In the following cases, the employee makes £35,000 per year in salary and £10,000 in commission.
#1. Basic salary
The starting salary is £35,000. As a result, the company contributes £1,050, and the employee contributes £1,750.
#2. Qualifying Earnings
Salary + commission (£45,000) minus £6,240 equals £38,760 in qualifying earnings. As a result, the employer contributes £1,162.80, while the employee contributes £1,938.
#3. Total Earnings
The total earnings are £45,000. Employer contributions are 3% (£1,350), and employee contributions are 5% (£2,250).
What is Final Pensionable Earnings?
Your final pensionable earnings are the pensionable earnings earned during the best year of the previous three years of pensionable service. If you work part-time or beyond full-time hours, your full-time equivalent pensionable earnings are applied.
If you are currently in the 2015 scheme, your 1995 section benefits will continue to be linked to your post-2015 final pensionable salary as long as you do not have a five-year or longer gap in pensionable service. So, if you take a five-year or longer hiatus in pensionable service, your 1995 section benefits will be linked to the best three years of pensionable salary preceding the break.
Unbranded Earnings
This is the amount of compensation that the employee normally sees on their payslip. It is also known as gross Qualifying Earnings.
This includes the following:
- salary
- bonuses
- Commission
- overtime
- SSP
- SMP
Please keep in mind that not all pay items can be included when computing pension contributions. Items like costs and trip funds should be removed.
For all newly established businesses, this option is pre-selected.
Group Earnings
Earnings that fall within salary levels are referred to as banded earnings. The current amounts are £6,420* and £50,000*. Please ensure that your payroll application can perform these calculations, or use our software to perform the calculations for you and then enter the results into your payroll application.
Calculations for the two choices presented above are provided as examples.
- Mr Banded earns £2,500 per month in Gross Qualifying Earnings (GQE). His pension arrangement is set up to employ banded earnings, which means that monthly salary thresholds lower this sum to £1,980. This is referred to as Pensionable Earnings (PE). His employee and employer contributions are then calculated on the basis of his Pensionable Earnings. This amounts to £158.40 in total contributions for this pay period.
- Mr. UnBanded earns £2,500 per month in Gross Qualifying Earnings (GQE). Because the scheme is configured to use unbanded earnings, salary thresholds are not applied to his GQE, and his PE is the same. For this pay month, his employee and employer contributions total £200.
In most circumstances, employers will select one of the two options listed above.
Other Options
If you have received advice or are comfortable with self-certification, you may choose one of these three approaches for calculating your pensionable earnings.
Please keep in mind that if you choose the first or second alternative below, you will have to analyse and calculate contributions within your own payroll programme
These choices may necessitate the completion of Self-Certification by the employer, so we highly advise employers to research this topic or get advice from an adviser before proceeding gov.uk/money-purchase-schemes-guidance.pdf.
#1. Basic Salary
This is a definition of pensionable earnings that are at least equal to basic pay and include salary/wages, vacation pay, and any statutory payments (such as SMP, SPP, and SSP). This definition permits the employer to omit specific pay components such as bonuses, overtime, commissions, and certain allowances.
#2. Calculate contributions based on at least 85 percent of the total salary.
This is a pensionable earnings definition in which the employer certifies that at least 85 percent of total earnings are identified as pensionable in the calculation of contributions.
#3. Calculate contributions based on total pay.
This is a pensionable earnings definition in which the employer calculates contributions based on total earnings.
*Please keep in mind that the sums and salary thresholds used in the examples on this page are for the 2020-2031 tax year and are subject to change in subsequent years.
Pensionable Earnings FAQ’s
What does maximum pensionable earnings mean?
The federal government determines the maximum pensionable earnings for the year. Each year, the federal government establishes the maximum pensionable earnings for the year (YMPE).
Are taxable benefits pensionable earnings?
A cash benefit that is taxable is also pensionable. This means that CPP contributions must be deducted from the employee’s pay.
What are pensionable hours?
For members who work part-time, pensionable service is computed by dividing the hours worked in that year (excluding any overtime) by the typical full-time hours for that post.
