Brits resident in the USA – QROPS pensions
by Alexander Beard, on Feb 26, 2016 6:54:50 AM
You may or may not have heard of a QROPS but if you have a UK personal pension, as many ex-pat Brits do, this article may be of some interest to you.
There is much uncertainty surrounding this subject for individuals that are now considered as US tax resident/citizens. Although this short article is by no means comprehensive, it will aim to make clear some of the main points on the subject.
The term QROPS is an acronym for ‘Qualifying Recognised Overseas Pension Scheme’, a title that the HMRC bestowed upon certain overseas pension schemes that meet specific requirements (Although, HMRC have now changed the term to ROPS). These schemes must conform to being as closely aligned to how UK pensions are organised and operated in order to maintain this status.
If any overseas pension providers do not keep their plans aligned to the legislation, they risk losing their QROPS status with the HMRC. If they do lose this status, the overseas pensions will be unable to accept transfers into them without triggering an unauthorised tax penalty charge which could be up to 55% on the value of your pension. Historically, Guernsey used to be the most prominent offshore jurisdiction that led the market with QROPS pensions until the majority of them were delisted back in 2012; Malta has now become the main provider.
QROPS are basically an overseas personal pension plan that is similar to a UK personal pension. Meaning, the pension will grow tax deferred until you begin taking an income which will then be taxed by the IRS.
Pre 2015, QROPS had several advantages compared to a UK personal pension. These included being able to take withdrawals from the pension at 50 and taking a larger tax free lump sum of up to 30%. Post 2015, however, has seen most Malta providers now amending their plans to remain in line with UK legislation in order to maintain their QROPS status. This means that you cannot take your benefits until at least age 55, unless the member has severe health conditions, and the majority of providers’ lump sums have been reduced to 25% - the same as the UK.
Another major QROPS advantage was the ability to leave your remaining pension pot to your loved ones free from tax whereas the UK used to apply a 55% death tax. From April 2015 this death tax was abolished by George Osbourne. Now you can leave a UK pension pot as a lump sum or as an income completely tax free up to 75. Individuals that die after 75 can pass the pension on to a beneficiary who can draw an income or a lump sum (new legislation for 2016-17) at their marginal tax rate. As you can imagine, this has had a major impact on the previous advantages QROPS used to enjoy.
Compared to AMVEST
Our solution is a UK registered SIPP called AMVEST. Due to the uncertain taxability from the IRS coupled with expensive costs and the removal of some advantages by the UK Chancellor, we believe it is more suitable using a tried and tested solution of staying with a UK plan, at least until the IRS make it clear about how they view these transactions.
Malta have only just begun to report these transfers to the IRS via FACTCA and we believe that the IRS will begin to look at them more closely. The more and more cases they view the more they will need to clarify their position and until that time, it is safer to use a UK registered scheme. We must also bear in mind what advantages does a QROPS have now and for how expensive they are, typically 5% initial transfer fee, are they worth it.
Transfers between UK registered pensions are not a taxable event for the IRS whereas a QROPS could well be. This will allow you to hold your pension without the risk of sometime in the future being taxed by the IRS for transferring it. The question is risk, if a company that offers a QROPS to an individual that is already a US resident but will not confirm, in writing, that such a transfer will not get taxed by the IRS then you need to ask yourself why.
Transfers for US residents
This is not to say that QROPS cannot offer tax efficient solutions for British expatriates that have moved abroad to countries other than the US, far from it. However when it comes to the US, because the IRS have strict and complex tax rules, this is where it becomes a very grey area and where many disagree.
The majority of tax specialists in this area do agree on one thing and that is, if you transfer a UK pension to a QROPS before you become a US tax resident or if you have enough tax credits then you should avoid any problems. However, if you transfer whilst you are a US tax resident and you do not possess enough tax credits then this is where specialists are divided as to whether it will be seen as a distribution. In such a case your whole pension pot could be taxed by the IRS. More and more cross border tax specialists are leaning towards that the assumption that the IRS will tax a transfer if you are a US resident/citizen.
In the US/UK Tax Treaty technical notes, provided by the IRS, it discusses a transfer between the two Contracting States of the treaty, the US and UK.
‘’Similarly, if the distribution were not subject to tax when it was “rolled over” into another U.S. IRA (but not, for example, to a U.K. pension scheme), then the distribution would be exempt from tax in the United Kingdom.’’
As you can see, this brief paragraph mentions that a transfer between two US pensions, known as a rollover, should not be taxable by the UK. So if an American residing in the UK decides to transfer his US pension to another US plan then it would be exempt from UK tax. It is fair to say that tax treaties are a two way street and the IRS will reciprocate, allowing a transfer between UK pensions to also be exempt from US tax.
However, it also states ‘’but not, for example, to a UK pension scheme’’ which is clear that a cross border pension transfer will be deemed not to be exempt from being classed as a taxable distribution. Therefore, it is reasonable to conclude that a transfer from a UK plan to another jurisdiction may well be considered a taxable distribution.
In addition, the IRS published a letter in 2011 concerning a UK pension transfer to a third country jurisdiction for US resident/citizens. The letter makes it clear that they will not tax a UK to UK transfer; the letter continues to state that a transfer to a third country could be treated as a distribution that would be subject to tax. You can find the IRS via the link provided below:
Of course, the IRS also state that this is for informational purposes only and does not constitute a ruling which is where specialists have their disagreements. However, it does make a compelling case toward the risk you may be exposed to with a transfer to a QROPS if you are already a US resident/citizen.
It is our opinion that these are red flags, which is why we do not recommend QROPS for individuals who are already US tax residents. Some providers have even marketed their QROPS as ‘US qualifying’ which is technically incorrect as no non-US pensions are considered as US qualifying. In order for a pension to be ‘US qualifying’ it must have been created or organised in the United States.
So what to do?
You probably feel a little confused by all of this and just want a simple answer to a simple question – is a UK pension transfer to a QROPS a taxable distribution in the eyes of the IRS?
Unfortunately there is not a straight forward answer to this question. However, before you commit to such a big decision there are several things you should consider.
- Firstly, ask yourself is it worth taking a risk with my life savings considering this is such a grey area for US residents? After all, if the IRS ever does address the issue directly within the treaties there is nothing stopping you transferring at a later date or, indeed, when you are closer to 75, which will save on cost.
- If you have been told, categorically that a transfer into a QROPs will not be taxed by the IRS, ask for this to be put in writing, with a guarantee that if any transfer becomes liable to an IRS tax charge, this charge would be refunded to you. Your reply would probably be the best indicator of what your decision should be.
- You could write directly to the IRS for an answer.
- Finally, you could always seek out a tax specialist that is both US and UK qualified and understands the complexities of tax issues in both jurisdictions for their opinion.
Of course, there are many other, finer details associated with this complex issue but we are constrained by the limits of the article. This being said, I hope the article has addressed the key issues and has provided some insights into any questions posed. These views represent our interpretation of the rules.
At Alexander Beard, due to such uncertainty, we believe that the tried and tested route of a UK SIPP is by far the safest option and so we made a corporate decision that we will we will not expose our clients’ money to these potential risks.
If you would like to discuss this matter in more detail then please do get in touch with us. Alexander Beard is an international financial advisory service who are registered and regulated both in the United States and the United Kingdom.