nun

If you are a US citizen living in the US you don't have to pay UK tax on payments from your UK pensions. Here is the form you have to file for UK tax relief.

http://www.hmrc.gov.uk/cnr/us_individual_2002.pdf

The US tax basis on your UK pensions depends on how you handled the contributions on your US tax returns back in the 1970s. If you used the treaty to exclude yours and your employers contributions from US income tax at the time, ie deferring tax, then any distributions will now be taxable as income. That would include lump sums and periodic payments. If you included yours and your employer's contributions as taxable income on your US tax returns and paid tax back on them back in the 1970's then there will be no tax due on what was paid into the pension plan, just on the gain.

downton44

Reply to MMcD regarding the above issue.

My UK financial adviser has been working on this issue with my US CPA.
I believe they have come up with the correct interpretation of the Tax Treaty.
They believe that the lump sum should not be subject to US tax and have advanced a logical interpretation.IRS opinion unknown.

The people in question are:

I. Desmond O'Driscoll : email : [email protected]

2. Paula Taylor CPA : email : paulataylorcpa.com

I highly recommend these people, perhaps they can help.

lansbury

So they believe - would be helpful if they actually knew

IRS opinion unknown - IRS the only people whose opinion counts

Advice like that could cost someone a lot of money

There a different rules for private pensions and government service pensions, you don't say which one your advisers have been working on.

nun

I think your professional advisors have it wrong. I'd be interested to hear their "logical interpretation".

Lump sum payments are covered in Article 17, paragraph 2, but the savings clause means that for a US citizen the IRS taxes the lump sum distribution as income and according to it's US tax basis. So the US will tax a lump sum distribution from a UK pension.

However, the case is different for the tax free parts of periodic payments. Article 17, 1b) directs that if a payment is tax free in the country where the pension is set up it has to be tax free in the country where the beneficiary lives as well. This is not subject to the savings clause.

IMHO the bigger issue here is knowing the US tax basis of the pension and whether it was correctly either included, or excluded via the Treaty, from US taxation during the accumulation phase.

MMcD

Thanks, Nun - exactly what I need !

hmmmm: Caveat emptor! But thanks downton44 for the recommendations

1.Can you explain/elaborate a bit with regard to the question you raise in your last sentence?
Presumably my "private pension retirement plans" (as they were referred to in the 70s) have been in "the accumulation phase" since inception. (?) But what does that mean pragmatically?
2. Thanks for pointing me toward (at least some of) the relevant articles in the Tax Treaty. The "Savings clause" begins with "Notwithstanding.....". So too, does the paragraph in Article 17 which specifically addresses the treatment of lump sums.
Which leads me to ponder...which "Notwithstanding" takes precedence ? From what you say - I'm sure you'll say the "savings clause" - but then why have a treaty if its subsequent clauses are abrogated by a paragraph on page 2?
So confusing

nun

I don't know what the rules for foreign pensions were in the 70s, but now there are two ways of dealing with contributions to foreign pension funds when you do your US taxes that will change the tax basis when you eventually take income out of the pensions.

1) declare yours and your employers contributions to the pension as income and pay the tax upfront. This will result in you having to only pay US tax on gains when you tax money out.

2) or you could have exempted yours and your employers contributions from US tax in the years the contributions were made by invoking the Tax Treaty, but I'm not sure this was applicable in 1970. So how did you handle the contributions on your US taxes back in the 1970s?

The US always has a savings clause in it's treaties because it taxes on citizenship rather than residency and the regular USA tax laws always trumps the treaty whenever there is a conflict or a section isn't explicitly exempted.

theOAP

Good question; not so simple answer. As you know, the US taxes foreign income regardless of residence and the UK generally only taxes foreign income remitted to the UK for those 'resident in the UK' for the tax year. The attempt to write a treaty between 2 vastly conflicting tax regimes will always lead to difficulties if both parties wish to maintain their normal stance. It's the reason treaties exist. The major body of the treaty is to simply reinforce (re-state) the stance of both parties. It's written as if both parties taxed in the same fashion (debatably, the UK way). It therefore protects the UK stance, and allows the US to take exception through the saving clause. It's only when 1 party (usually the US) relinquishes their normal stance that the complications arise: hence 'notwithstanding' (OK, we won't tax this!) to a clause that's 'notwithstanding' (We get to tax everything regardless of what the treaty states). Unfortunately, or fortunately, you're in one such rare area.

The downton44 post exemplifies the potential gold mine awaiting those professionals who feel they can challenge conventional rulings. Please, I am not saying this is the case for downton44! Remember, each tax situation is unique, and due to the 'confusing' wording resulting from the 'we can, but we won't' clauses and the vast opportunity for differences between each type of pension plan, the Big 4 companies are able to successfully overturn IRS rulings (and the reason for their substantial charges). The unique situation of downton44 may allow a challenge, where most other situations may not.

To dispute a tax decision, a person must employ someone approved to argue the case before the IRS or subsequent tax courts (downton44, take note). For the average taxpayer the legalise becomes too much and the IRS decision usually stands unchallenged.

'Pragmatically', you have 3 choices:
1) You hire someone both qualified to dispute an IRS decision and conversant with the treaty to review your situation:
2) You accept the basics of the treaty (Article 17), decide whether to take all 3 at once, subtract your costs for the pensions, and pay tax on the remainder:
3) Or, since it is a grey area, take a stance that you don't owe tax, and file a return accordingly. If the IRS disagrees (assuming the return is audited) you capitulate and pay the tax plus penalties and interest. It doesn't automatically make you a tax evader or a criminal; just someone who read a complicated treaty differently. BUT, be sure you're able to fully explain why you interpreted the treaty language as you did.

Also, make sure you've covered yourself for FBAR and Form 8938 (2011 onwards) and any other IRS form required in the past. And, before someone asks, I don't know if or which form is required. It depends on the 'uniqueness' of the pension plan and how the profits are eventually paid. It's almost impossible to make any statement concerning the investment/profits of any pension plan without being wrong in certain instances.

nun

I'd go with option 2). The general consensus is that lump sum payments from foreign pensions (covered under Article 17) to a US citizen are taxable by the IRS. This is one of those situations where a tax advantage in the UK is just not recognized by the US so you have to deal with it. Another such situation is if a US citizen has a UK Individual Saving Account. The gains on those are tax free in UK tax law, but not under US law which is frustrating when the US citizen owner learns about it.

OAP makes good points about your FBAR disclosure. Also if you have UK based pensions I assume you paid UK National Insurance so you might qualify for some UK state pension. I'd contact HMRC to find out. Interestingly the taxation of such government social security payments are another situation where the savings clause does not apply and they are only taxable in the country of residence. So in your situation they would be only taxable in the US, but if you moved to the UK they would only be taxable in the UK.

theOAP

And, if you remember another discussion you and I had a good while back on another forum, it's not always advantageous to invoke the treaty on the UK State pension when resident in the UK!

I also think that, given the principals named in the downton44 post, the professionals may be looking at option (3 for that particular situation. Just a guess.

EDIT: I'll revise the above statement if the Paula Taylor mentioned is in Atlanta.

nun

Not sure I understand that. Anyone resident in the UK will be taxed on a UK state pension with or without the Treaty, although maybe it has something to do with whether you can apply UK tax paid against your US tax bill. Also can you invoke the treaty on some pensions and then choose not to invoke it on others on the same return?

I can imagine that if your tax rate is less in the country where the SS comes from than where youu live it would be best not to invoke the Treaty. This might be the case for a US citizen, living in the UK and not remitting the payments to the UK.

theOAP

Sorry if I wasn't clear nun. It pertained to a discussion about a US Person, resident in the UK, invoking the treaty for their US tax return, not the UK return. To jog your memory, it had to do with those in the 40/50% tax bands and the inclusion on Form 1116 of the tax paid on the UK State pension to the UK, and therefore the tax credits available, offsetting (or improving the outcome, depending on how the return is prepared) the results of invoking the treaty for the US return. My exasperated 'smiley icon' simply explains my feelings as to how complicated all of this can become. I assume the OP would have to 'invoke' the treaty if they chose to have the proceeds tax free in the US?

nun

Yes I remembered and edited my post. You can use a similar strategy as a US citizen for contributions to UK pensions. You don't use the treaty to exempt them from US tax and include them on your US tax returns. The you use any foreign tax credits to offset your US tax bill. This can result in only the gains being taxable in the US once income is taken. it's a paperwork nightmare though as you need to keep track of the contributions and what proportion have had tax paid on them already. Part of my tax/retirement strategy is actually to never get into the 40%/50% tax brackets. Keeping my income low results in a low tax bill too. And I'm going to get as much of my IRAs into ROTHs so that I won't be taxed on them in the US or the UK.

The OP would have to invoke the Treaty to have any chance of getting the UK lump sum tax free in the US.......but I rate that chance as vanishingly small.

theOAP

(We're cross posting here!)

I do. I invoke the treaty for US SS, but not for the UK State pension. I hasten to add that I may be entirely incorrect in doing this. I could be hurting myself, but I don't think so. The IRS has yet (looking for the 'smilely' knocking on wood) to object.

It all becomes extremely complicated regards how to declare the US SS on 1040 (you show SS payments per 1099, but $0 income), and then how to declare foreign taxes paid on 1116. Form 1116 says (for some entries you must complete) that 'exempt' income can not be included in those particular calculations. After a discussion with the IRS, I do the best I can in preparing the returns, but it's anyone's guess as to how many different ways you could approach this.

If the Euro continues as it's going, I'm not even going to have to file tax returns, let alone worry about which band I'm in! (OK, not entirely true.)

A side note: there is a Paula Taylor with KPMG in Atlanta (as someone says, Google is your friend). If KPMG find a way to solve the problem for downton44, then there is hope for some, but at a cost. BUT, it depends if this is the correct Paula, since there are other Paula Taylors listed (and not with any of the Big 4).

nun

Even if she is from KPMG, I'm not sure I'd go along with the advice. The Big4 can find loopholes in most things, but they can also bend the rules to breaking point and for the relatively simple situation of the OP I think we've covered the answer quite thoroughly. Having to pay tax on the UK lump sum might not be the answer the OP wants, but I think that's the general consensus. here's a nice summary of the situation in understandable english under "Lump Sum Exception".

http://www.weil.com/news/pubdetail.aspx?pub=8292

OAP can you remind me of your residency and citizenship status so I can follow the logic of your application of the treaty.

MMcD

1.Your replies have been extremely helpful. It's taken me a while to mull over and digest...but thanks for the detailed explanations
OAPs "option 2" is the one I'll adopt, It's certainly the safest and it's probably legally the correct one.
The link above in Nuns reply - to the attorneys web page bolsters the "it's not tax-free in US" argument.
2.With regard to filing FBars - does anyone have an opinion as to whether I must do so BEFORE such time as my "self-employed retirement plans" are converted to (transferred into, used to purchase) annuities?
The General Instructions/General Definitions which accompany the FBar form define "financial account" amongst other things as ".......insurance policy with a cash value....., an annuity policy with a cash value, ....etc."
In effect it cites financial instruments which can or will or could provide remuneration - periodic or otherwise.
My retirement plan policys provide no remuneration of any kind, nor can they ever be "cashed in".
The only control I can excercise over them is to transfer them to another insurance company and/ or use the cash value of the funds to purchase annuities (or reduced annuities if the lump-sum payment option is taken at time of transfer).
And as I see it - it would be at that point (and going forward) FBAR filing is required. (No reference is made in the General Instructions to "pension plans".
But I wonder if that's screwy thinking on my part? These are such murky waters.....
Any thoughts?
The reason for my concern is that if FBARS are required by the US Treasury Dept (I've learned it's them - not the IRS who require they be filed - even tho the IRS is part of Treasury )... I would then have to file forms for each year going back to 2005 and would have to accompany each filing with a letter of explanation as to why it was not filed before now. And as you may recall - in my 1st post I said I'd only just learned I have these heretofore lost policies back in the UK***(see note below)....etc. etc.....don't have a clue what they were were worth in prior years.....etc.
Therefore - I'd like to know for sure whether FBAR filing would be required before I have purchased annuities and still only have "retirement plans", as my policies are called.
Whew! I hope I haven't overcomplicated what is already dense and obscure.
3. By the way Nun - Am I the "OP" to whom you've referred in several posts?
What does that stand for....obtuse person, perhaps?

PS:*** I just went back and re-read my 1st post; I now see I never mentioned these 3 policies were "lost" for 32 years (ever since I moved back permanently to States in 1979).
I didn't have a clue they existed till a few months ago! And it's been near impossible to extract info related to them from the "new" companies which hold them now.