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Mark Hooper, Editor of TaxationWeb’s US Tax section, examines the Double Tax Treaty between the UK and the US as it affects pensions. In July 2001 a new Double Taxation Treaty between the UK and the US was signed, one of the major changes from the old Treaty was how both pension contributions and pension income would be taxed in each country.

The parts relating to pensions generally came into force from April 2004.

Treaty objective

The aim of the new Treaty is to allow as a tax deduction in one country contributions made into approved plans of the other country. Apart from Canada the US has no other similar provision in other Treaties.

The provisions relate purely to occupation schemes and not the State retirement scheme.

For purposes of making such a claim in the UK contributions are allowed into both a US 401(k) plan and an Individual Retirement Account as well as usual company pension plans, or 401(a) plans.

For purposes of making a similar claim in the US, contributions are allowed into both a UK company and UK personal pension scheme.

These provisions fall mainly within 2 articles of the Treaty, Articles 17 and 18.

Relief for contributions

This means for the first time tax relief is given on a US tax return for contributions made into UK pension plans by Americans on their Individual Tax returns. In addition employer contributions into such plans no longer need be included in gross income of the employee on their US tax return.

Similarly when a British employee works in the US but remains in the UK company pension plan he will be able to deduct his contributions into the plan and also refrain from being taxed on any employer contributions and growth in value (if any!) of the pension fund.

However to qualify the expatriate must have already been in the scheme prior to departure from their home country.

Under Article 17(2) when a retiree takes a lump sum from the pension it will only be taxed in the country where the payment came from, irrespective of the residency status of the individual receiving the lump sum.

Thus when a UK Citizen retires to the US the lump sum he receives from the UK plan will not be taxed in the US. As such lump sums are normally exempt from UK tax this is a significant advantage of the new Treaty. Unfortunately as US Citizens are not permitted to claim benefits of the Treaty against US tax this exemption will not apply to them.

Tax relief under the Treaty will be restricted to the usual caps in place for local plans. This applies to total contributions made if the participant is a member of plans in both countries.

UK nationals who are resident in the UK but happen to have a Green Card will no longer be taxed in the US on their UK pensions unless they have a permanent home in the US or considered a resident of the US using the substantial presence test.

Opting out

If under any particular circumstances an employee is worse off under the Treaty then it is possible to elect out of the Treaty under Article 29 and to use domestic law instead.

As you can see there are considerable changes in the way pensions are taxed. Generally when a pension is received as income it will only be taxed in the country where the recipient is resident. Again US citizens will not be able to use the Treaty to shelter income from UK pensions.

Individuals should also be aware of State Taxation. The Treaty is only applicable to Federal Income Tax and thus a payment could be exempt from the Federal return but still reportable on a State tax return.

Mark J Hooper
February 2005
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About The Author

Mark J. Hooper is a US Enrolled agent with 20 years experience of preparing US Individual Tax returns for expatriates and US non resident aliens living in the UK. He worked for Big 4 Accountancy Firms before starting own practice in the West Country 2 years ago. For more information on his background and services, please visit www.expattax.org.uk

Article Added Saturday, 12 March 2005 | 19480 Hits

 

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