Retrospective tax of US 401(k) lump sum ?

[Bill67]

The context for this query is that I am a recently retired UK resident & citizen who had a USA 401(k) retirement plan (I worked for a US company for a few years in the noughties). In 2024, I decided to start taking distributions from this 401(k) plan.

The unhelpful plan administrator insisted that they were obliged to withhold the standard non-resident 30% on periodic payments (despite having a valid W8-BEN on file which should have overridden that withholding, as the US doesn’t have tax rights). So, withdrawing from the fund in instalments (with tax only payable in the UK) would have meant my continuing to have to file annual US tax returns to get back that withholding. Although I was sure they were wrong, I eventually gave up arguing with the administrator and took a one-off lump sum distribution instead. I calculated that the higher total tax due (now only to the US) wasn’t going to be that much more, plus I got all my money sooner. Arguably the biggest attraction of taking the lump sum was the pleasure of never having to deal with the pension company or the IRS again.

A year ago, my research into the tax treaty position concluded that a lump sum option would only be taxable in the US. Now that I am in the process of filling in my 2024/25 UK tax return, I have come across online sources saying that only recently in 2025, the UK may have deviated from its long-standing precedent of not taxing US pension lump sums. It appears HMRC might be willing to invoke the so-called “savings clause” that is included in the treaty at the insistence of the USA. However, I don’t interpret that what HMRC has actually said definitively changes anything. As far as I can tell, all HMRC has done is reiterate what has always been legally true, namely that the UK could also apply the savings clause to override most provisions of the treaty. However, HMRC hasn’t categorically stated that it will now abandon its precedent and apply that clause to enable taxation of tax US lumps sums. This brings me to the first of my two questions: has the UK actually started enforcing this (if anyone knows for sure), rather than just reminding taxpayers that it can and so encouraging them to pay.

If I complete my UK tax return without claiming tax treaty exemption, then HMRC will inevitably get its additional share of the (now greater) total combined US & UK tax (the UK will tax mostly at the 40% marginal rate, so US tax credits wouldn’t cover all the UK tax due). Therefore, I don’t see I have anything to lose by claiming the lump sum exemption from UK tax, based on precedent at the time of the payment, and then seeing if HMRC disagrees. This income was received when precedent undeniably pointed to no tax being payable in the UK. So, my second question is: does HMRC have a track record of applying updated guidance retrospectively?

Thank you

[darthblingbling]

My understanding is that the lump sum exemption was put into the treaty for a specific US centric reason and as of 2017 when flexible drawdowns became a thing in the UK, things got muddy, so HMRC are now invoking the savings clause as changing the treaty isn't in their power. To be quite honest I've never got my head around it and I could be completely wrong, but it did emphasise that like legislation you need to look to the purpose of the treaty article and not just focus on the wording verbatim (which could be a defence for the savings clause as you could argue it was never put in place for HMRC to do something like this).

Do HMRC retrospectively change guidance. Given the recent drama with their change in position on Class 1 NIC for IMEs I would say there is definitely precedent.

I did recently support a US person with some advisory around this with support from a US specialist. They recommended when it came to inputting on the return either.
- declare in full and claim an FTC for US taxes paid
- treat as exempt but include the reason why in the WSN area for full transparency, but appreciate there is risk of challenge

Can't say I've personally seen HMRC challenge someone using the article 17(2) exemption yet. But I have seen HMRC taking more of an interest in overseas pensions.

[DavidTreitel]

HMRCs interpretation of the treaty is that the saving clause gives the UK the right to charge tax, with the UK giving credit for US tax due - which will not be at 30% on the entire amount. This change of opinion by HMRC was widely known for 2 years before being published. I had several meetings with HMRC over the years prior to publication.

You may wish to instruct counsel as to whether there is any position contrary to that taken by HMRC.

[Bill67]

Thank you both for responding. I won’t be getting any tax lawyer involved, as the amount of additional tax in my case isn’t worth the hassle and expense. My question is motivated principally by a sense of unfairness, if this abandonment of precedent by HMRC were to be implemented retroactively.

I’m curious about the comment that this change was “widely” known in 2024, which is when I did my research (including on HMRC’s community forum) and then made my decision. I found no mention of it. As far as I can tell, this information wasn’t published into the public domain until March 2025. Surely this publication date is all that matters – or am I wrong in exercising common sense..?

Just imagine if the Premier League changed its interpretation of VAR penalty decision protocol at the end of the season and then published a rearranged final league table! I think most football fans would describe that with a cruder adjective than merely “unethical”.