crawshaws

I’m a 62-year-old expat who left the UK in 1994, been resident in Virginia for the last 25 years. I’ll retire here in the USA. I’ve been reading old posts on this site related to the UK state pension situation. You folks are very knowledgeable, much appreciated! I think I’ve got my head around my UK State Pension situation: I will get a full UK state pension (I have 35 qualifying years by paying 21 years of class 2 voluntary contributions), but when I claim my US Social Security at age 70, the SSA will reduce my SS somewhat due to the Windfall Elimination Provision (WEP). I have 25 of “substantial earnings” in the USA, and I only worked in the UK for 14 years…I think the impact of WEP will be something less than the 50% maximum (of my UK State Pension amount).

I’m struggling more to understand the implications for my UK Personal Pension (PP). I haven’t contributed to it since 1994, but I believe this PP has a small SERPS element to it and it’s grown over the last 30 years to ~GBP140k. Is this PP also subject to WEP? Can anyone offer me advice on what to do with it? Do I get to withdraw 25% tax free…but then what? There is no shortage of “Capital Management” companies offering to “help” but I thought I’d first seek the advice of this community. Thanks in advance!

Pulaski

All pensions "funded from income not subject to SS deductions"* are susceptible to WEP, so yes, your UK private pension payments will be part of the calculation. You might consider if it makes sense for you to draw down 100% of that fund, to live on, before you claim your SS, thereby removing that from the WEP calculation.

The 25% tax free has been debated here on BE, and I hear in other forums, and the general consensus appears to be that the US doesn't recognise the tax free lump sum, but there is a hard core of "experts" (mostly, it seems to me, of the "online variety" ) who insist that they know of a loophole that allows the 25% to be free of tax in the US. But AFAIK, nobody has ever cited specific personal experience, an authoritative published source, or a court ruling, to support their assertion.

* The "income not subject to SS deductions" wording is the clue as to where the whole WEP minefield came from - it wasn't designed primarily to ensnare mid-career immigrants to the US, but was designed to cover US workers who worked for part of their career in a role that was outside of the SS regime, before later working in a job covered by SS. Roles not coverd by SS are typically military or government roles that have their own non-SS pension scheme, including, I hear, teachers in some states.

crawshaws

Thank you Pulaski! Right, I'd read that emptying out my PP before claiming SS might make sense...at least if I can do so without incurring a lot of taxes.
I have also seen US-based law firms claiming that they can ensure that the US honors the bilateral UK-US tax treaty and treats the first 25% as tax free (but the lawyer fees might cost more than my tax savings).
Yes indeed, my wife is a teacher in Virginia - I was worried she might fall foul of this, but in fact she does (and always has) paid into SS (in addition to her Virginia State Pension scheme). Her VSP is not subject to WEP.
Thank you again for the speedy advice!

Pierre_Tete

But then again....what is the definition of 'pension'. I have a defined contribution money purchase retirement savings account sitting in the UK (and this is quite similar to a 401k scheme over here). But that's not a pension in my definition. It doesn't provide any periodic or guaranteed payout. Sounds like the OP had something similar. So is that actually subject to WEP? It won't be an issue for me personally since i have 30 years of SS.
BTW to the OP, have you been reporting your personal pension account on the FBAR? I do. Any you're over the $100k limit so there are other reporting requirements i think....

Pulaski

Yes.

You can't just weasel out of WEP by arbitrarily redefining what you think a retirement pension is.

Of course these days with "draw down" being permitted, it's a lot more murky - it was clearer under the old rules (which I disliked) that required pension funds to be used to buy an annuity when you retired.

Pierre_Tete

From the SSA website concerning WEP: A non-covered pension is a pension paid by an employer that does not withhold Social Security taxes from your salary.

So if you have a personal pension/401k type plan, that's not a pension paid by an employer. Hence my query as to whether a personal pension should be WEP'd or not.

Glasgow Girl

Here is a link that provides a lot of detail on what can and cannot be WEP’d. Everyone can read and interpret as they see fit. First posted by USADragon last year. It is a very helpful insight into the SSA rules.https://secure.ssa.gov/poms.nsf/lnx/0300605364.

Unfortunately, IMO it is quite clear that WEP will apply to almost all UK pensions and pension funds. The only way to avoid WEP is to forfeit all rights to a pension prior to becoming eligible which is pretty tough to do given current UK law that makes it impossible to access pensions or pension funds until the eligibility criteria is met. They define pensions very comprehensively going so far as to define withdrawal of lump sums to be pensions subject to WEP. The only exceptions are pension payments that include voluntary employee contributions, that are separate, and in addition to, the regular pension payment, and the only UK pensions that I know of that meet that criteria are old style Additional Voluntary Contribution plans known as AVCs or FSAVCs and the portion of the UK state pension that is attributable to voluntary NI contributions.

In the case of a lump sum withdrawal made prior to applying for social security they will compute an equivalent monthly pension based upon the date of withdrawal and the recipients age, and use that amount to WEP social security regardless of the fact that there is no actual income. Therefore drawing down a pension fund subject to WEP won’t protect if from WEP unless it meets the above exception criteria. Unfortunately defined contribution plans based upon non covered earnings are specifically called out as being subject to WEP and although the examples they provide are 401K type plans, clearly U.K. defined contribution plans are based upon non covered earnings and fall into that category. In the case of pension funds created by opting out of SERPs, that is a bit of a grey area because it was (usually) a voluntarily decision to opt out of SERPS, technically the contributions were employee funded by a rebate of NI contributions and the fund meets the requirement to be separate and supplemental to the regular pension, however if I recall correctly they were also funded by a rebate of company NI contributions and if that is the case it meets their criteria of a pension subject to WEP.

It’s complicated and I wish I was wrong. I used to believe that drawing down a lump sum prior to applying for social security would protect it from WEP; that a pension fund in the form of a lump sum could be argued not to be a pension per se and therefore not subject to WEP; that transferring a company scheme to a SIPP prior to meeting the eligibility criteria could avoid WEP but given the above document referred to I think that is wishful thinking.

Would love to be wrong so if anyone has an alternate point of view would love to hear the case supporting that point of view.

Pierre_Tete

If you read the USA-UK tax treaty, Article 17, para 1 and 2, it says that any tax-free pension in one state will be tax free in the other state. We know this is true of Roth distributions from a US source to a US citizen living in the UK. So it would seem to apply in the reverse direction to tax-free parts of UK distributions to US residents. The treaty has accompanying explanatory notes, and those are worth a read. Interestingly, notes for Article 17(2) specifically call out non-taxation of lump sums from a US pension source if the owner is resident in the UK, and that para is designed to close that loophole so that the IRS can still tax those US distributions, but I don't think that overrides 17(1) tax-free distributions going the other way from UK to USA.
Would be interesting to know how others here interpret the treaty and its notes.

I do know of recipients of 25% lump-sum UK tax-free distributions here in the USA who simply did not declare it on their tax return. Problem solved - for them.

Pierre_Tete

Are you still working? Given your age and your plan to draw SS at 70, you still have 8 years to accumulate SS substantial earnings, which could be from part time work (30 years SS will put you out of the WEP zone). Or, run the numbers and if you are not working figure out if its worth applying for a reduced SS now (WEP will only be applied later when you get distributions from your PP and UK state pension I assume). Those extra 8 years even at a reduced rate might be better than waiting till 70. If you don't need the money, you can take it and invest it. If you do need the money, it will enable you to draw down other pension sources more slowly. Lots of scenarios. Many folks extrapolate their SS claim date to dollar 'break-even' age and then decide they'll be dead by then, so why delay....

Glasgow Girl

The IRS has expressly stated that Article 17(2) of the tax treaty does not apply to is tax residents so that clause is knocked out, leaving 17 (1) (a) and (b). https://www.irs.gov/pub/irs-wd/08-0024.pdf.

The Savings Clause also knocks out 17 (1) (a) for US citizens leaving only 17 (1) (b).

17(1) (b) states “the amount of any such pension or remuneration paid from a pension scheme established in the other Contracting State that would be exempt from taxation in that other State if the beneficial owner were a resident thereof shall be exempt from taxation in the first mentioned state”

So the question is what does the phrase “if the beneficial owner were a resident thereof” mean. The tax treaty defines US citizens living in the US to be a resident of the US and as such they fail the requirement to be a resident of the UK, thus this paragraph would be non applicable. On the other hand you could view it as a hypothetical statement meaning that if the payment would have been tax free if the recipient were a U.K. resident then the clause does apply and it does not matter where the resident actually lives or what the citizenship is. That is stretching a point but the door is open.

There are other arguments, the most persuasive one I have heard is that although there is a tax free portion, the pension itself is not tax free and therefore the clause is non applicable.

Not declaring income is always an option, but is obviously fraud and can result in a world of hurt. The better approach I think is to do what GlasgowKid did a few years back which is outlined below. It is an excerpt from this thread that contains lots of discussion on this topic. UK Pensions related to UK/US Tax Treaty

__________________

I wish to share a SUCCESS STORY with everyone. I also wish to apologize for not responding to a few private e-mails as I just signed into this forum just now after several years.
In 2016, I was a British Citizen but permanent resident (green card) of the US for >20 years.
I turned 65 years of age and claimed my UK pensions. In accordance with UK pension rules I opted to take a 25% Tax-Free cash lump sum plus a reduced pension from both my UK pension schemes.
As my wife and I were applying for US Citizenship at that time I decided to submit my UK Pensions as part of my total worldwide income in accordance with US tax laws. I did think of not including my 25% Tax-free lump sum in my 2016 tax return but did not want to take a chance of perhaps being audited and found that I tried to evade taxes!!!
Thanks to this forum I always believed that I should at least try and ask for a refund based on the US/UK Tax Treaty. So, in late 2018 (within 3 yr timeline) I decided to submit an Amended 2016 Tax return (1040 X) to the IRS with the following argument to support my position.
After reading the UK/US Tax Treaty I believe that my 25% Tax-Free Lump Sum amount should not have been subject to US Taxes. My position is based on the following key points:
Article 1, paragraph 5, subparagraph A has all the exceptions to the US savings clause. In that particular provision, Article 17, paragraph 1 is specifically exempted from the US Savings Clause. Pursuant to Article 17, paragraph 1, subparagraph A , the US will not tax the 25% partial distribution from a UK pension if that distribution is exempt under domestic UK tax law, which it is. This is the provision that exempts the withdrawl from US tax. The 25% tax-free partial distribution should not be confused with a lump sum. Lump sum is not defined in the UK/US treaty. The IRS definition of a Lump Sum Distribution (IRS Topic 142) is the distribution or payment within a single tax year of a plan participant’s entire balance from all of the employer’s qualified plans of one kind (eg pensions). The 25% UK Tax-Free partial distribution does not meet the IRS definition of a lump sum. While the term “lump sum” is often used in the UK to refer to 25% tax-free distributions, lump sum clearly takes on a different meaning in the UK as the complete pension has not been liquidated.
To summarize: As the IRS defines a lump sum distribution as taking the entire balance of a pension in a single year then the 25% UK tax-free distribution is not a lump sum and is therefore not covered by Article 17 (2) and is actually covered by Article 17 (1).
It took 6 months before I heard back from the IRS but around April 2019 I received a refund check (plus interest) from the IRS. I then submitted an amendment to my State and received a State Refund too. Please note that I only received checks with no letter supporting or refuting my position.
I am not a lawyer nor a tax advisor. Just a normal guy who decided to use the information provided in this forum to get taxes paid on my UK Pensions (25% Tax-Free Lump Sum) back from the IRS and State. I had nothing to lose and everything to gain so the effort was well worth it.

crawshaws

Wow, thank you all, very generous of you to respond so comprehensively! What a fantastic resource this forum is.
I'm going to have to take some time to digest this. Clearly, the rules are somewhat open to interpretation.
I was thinking about retiring 3 or 4 years before achieving my full 30 years of substantial earnings, but as Pierre_Tete suggests, it might be simpler to just put my 30 years in!
I'm in awe of Glasgow_Girl who seems to have legally and successfully taken on the IRS.
My UK sources of retirement funds/pensions do represent a fairly small proportion of my total retirement funds...I could take the WEP hit without too much hardship. The WEP is never more than 50% of non-covered "pensions", and for me (with ~25 years of US SS contributions and only 14 years of UK contributions) it'll be less than 50%.
So, it's complicated and there's lots to think about. I'm sure many other people will discover this thread and find it useful.
Thank you again.

Glasgow Girl

While I would love to take credit for successfully taking on the IRS, the success belongs to Glasgow Kid . No relation to me other than the fact that we both appear to come from Scotland, where we are known to be very careful with our money! I do think that not being a US Citizen was a key factor in this decision.

crawshaws

Understood Glasgow_Girl. Thanks to you and "the Kid".
"known to be very careful with our money!"...that made me chuckle.
I wouldn't think that US Citizenship Vs Green Card holder Vs Work Visa would have a bearing on this, but the rules seem so open to interpretation that it may well have factored in to the outcome.

Glasgow Girl

Unfortunately with very few exceptions, Article 17 (1) (b) being one of them, the savings clause within the tax treaty allows the US the right to tax its citizens (living in the USA) as if the tax treaty did not exist thus allowing them to tax all worldwide income regardless of the tax treaty. It also makes the definition of resident for the purposes of the tax treaty very important in the interpretation of Article 17 (1) (b).

durham_lad

When applying for SS you can use the following form to indicate how much of your UK state pension is from voluntary contributions.(see question 5 on this SSA form.)


https://www.ssa.gov/forms/ssa-308.pdf