Do you have US retirement assets?

US retirement assets (401k & IRA)

It is common for non-US taxpayers (neither US citizens or residents) to have US retirement accounts. This would be money in a 401K or an Individual Retirement Account (IRA), possibly from time spent working in the US for a US company or maybe inherited from a US relative (see below).

A UK resident with these assets will obviously have US tax issues associated with these accounts but will also have UK taxes to worry about.

To say the least, there is a fair amount of uncertainty on this matter and while we cannot provide certainty on all aspects of taxation on distributions made from these arrangements (to UK residents), we believe that there are ways of achieving more certainty.

The two extreme cases are where a UK resident (non-US taxpayer) either receives a distribution of 100% of the US retirement fund as a one-off lump sum, or the situation where the fund is taken out in instalments as a regular pension. The UK tax treatment of a foreign pension is different for lump-sums and regular payments.

Lump sum

No UK tax in accordance with Article 17 of the UK/US Double Taxation.

This remains US taxable subject to a potential reduction of any amount attributable to time spent working outside the US whilst making retirement plan contributions.

 

Regular payments

Subject to UK tax as pension income.

Exempt from US tax in accordance with Article 17 of the UK/US Double Taxation Agreement.

 

This seems quite clear.  A choice between UK or US tax and therefore relatively easy to consider the relative merits of each approach.

However, there is a lack of clarity where the case falls between these two extremes; either “irregular” payments are made from the US retirement plan or the distribution is most, but not all, of the assets held in the plan. Are these “lump sums” (not UK taxable) or not?

However, there is an alternative approach. Rather than take a full (100%) cash distribution from the US Savings plan (generally an IRA), the distribution can be rolled into a Roth IRA.  This transaction would have the same UK and US tax treatment to the Lump Sum described above, but most of the plan would now sit in a Roth IRA.  Not the full amount, as there would be some US tax withholding from the distribution.

The advantages of a Roth IRA are that the income in the plan continues to grow tax free, but crucially any subsequent distributions are also UK tax-free (in accordance with the UK/US Double Taxation Agreement).  Thus, you may subsequently access the retirement funds at your will, free of UK and US tax.

With US retirement plans, if you subsequently take the funds out of the Roth IRA plans before aged 59 ½, there is a 10% early withdrawal penalty.

We would add that the use of Roth IRAs is not available to inherited IRAs.  In this case, the funds in the (inherited) IRA must be distributed within 10 years.

This presents an interesting opportunity and there are providers who will provide access to Roth IRAs for non-US taxpayers based in the UK.  Please contact us if you wish to explore this further.