Slalomdude

After retiring back in the UK later this year, I will need to look at tax efficient ways to take retirement income. I will be using “rule of 55” to access 401k penalty free and will use it as a monthly income until 62. At that point my DB pension and SS will be my main source of income. I will then be in the 40% tax bracket. My question is, in order to avoid heavy taxation on remaining 401k balance, would it be more prudent to take an addition £20k each year and put it in an ISA. Being married I assume we could contribute £20k each. I was planning to leave the 401k in the US as I believe the US economy is inherently stronger than UK but if it means I will be heavily taxed in UK on withdrawals, I will gradullay bring all the funds over and put in ISA’s. How does the IRS view ISA’s? Thanks

durham_lad

The IRS does not recognize the tax exempt status of an ISA and treats it like a regular savings account if it is a cash-ISA or a PFIC if it is a stocks and shares ISA and taxes it heavily plus a lot more reporting so avoid investing in any pooled investments.

https://www.investopedia.com/terms/p/pfic.asp

Slalomdude

Thank you for that information. Time to rethink !

durham_lad

Before moving back you might like to convert a large chunk of your 401k into a Roth IRA. You will pay US taxes on the amount converted as regular income but then it is totally tax free in both countries. I did Roth conversions over 10 years after retiring and now have all of my 401k money in a Roth where I now take distributions tax free in the UK.

Slalomdude

My company 401k will not allow any Roth conversions so I would need to pull it out and reinvest with another company. My only concern there is that it will tie it up till I am 59.5 to avoid the 10% penalty. I plan on returning to the U.K. in late December and would need to do the conversion after Jan 1 to avoid it adding to my taxable income for this year. It would really inflate my 2023 tax bill if added to my income. Timing sucks !

Slalomdude

Great suggestions though. Keep em coming 👍

durham_lad

You can also roll it into an IRA with zero tax consequences before returning and still do a 72-t if you need access to it penalty free before age 59.5. I only suggest this because not all 401k plans work well with overseas companies. Have you checked how easily you can log on and control your 401k from overseas? Brokerages will usually also provide a much bigger range of funds to choose from at lower expense ratios, as well as accept an overseas address and phone number.

If you have US after-tax investments outside your 401k such as mutual funds then HMRC will treat all dividends and capital gain distributions as regular income but if you convert them to HMRC reporting funds then they will get the much better tax treatment that dividends and capital gains get.

Slalomdude

Riddle me this one. If I transferred a chunk of 401k into an IRA before the end of this year, it would count as 2023 income, Filling jointly in US would allow me to earn about $400k year and still only pay 20% on total. Then Jan 2nd , transfer a further $400k. If I delayed my return to UK until after this 2nd transfer, would I file and pay taxes to IRS or would HRMC still want their share when I file with them. Is it more prudent to make the return home after the April 1 tax year starts in UK. If I return to UK this December, would I have to file UK taxes for Jan-April 2024?

durham_lad

Let’s get the semantics correct first. Moving moving from a 401k to an IRA is a non-taxable event in both countries as the money in the IRA is still tax deferred and will be taxed when distributions from the IRA are taken. I think you are meaning 401k to a Roth IRA (aka a Roth conversion) which is a taxable event.

You are only liable to UK taxes from the day you arrive in the UK and become tax resident. If you do a Roth conversion before the end of 2023 and then another Roth conversion in January and move to the UK on Feb 1st or later then you will not pay any taxes on either Roth conversion. You will pay US taxes on your 2024 tax filing and I would ensure you pay estimated taxes on the Roth conversion in the same month or quarter.

If you arrive in the UK before April 5 2024 then when you file an HMRC return it will be a split year return, with taxable income only from the day you arrive through April 5th