US Tax Treatment of a UK Self-invested personal pension (SIPP)

We have had many clients with British retirement accounts and pensions, which often cause US tax complications. Self-invested personal pensions (SIPP) can be a complex account for US tax purposes. A straightforward pension for a British person can be very complex for a US Citizen or Green Cardholder.

What is a SIPP?

A SIPP is a pension scheme in the United Kingdom which helps you save money. Unlike a typical employer-provided pension, it is viewed as a more attractive pension plan option because of the control that you have in terms of where you want it to invest the money.

Is the SIPP Protected by the US-UK Tax Treaty?

Because earnings of a US expat in the UK are subject to taxation by both nations, the two countries entered into a tax treaty that determines what income is taxable by each. Any income sources that are not covered by the treaty are generally subject to both nations’ tax rules. Though your SIPP is a retirement plan by design, it will only receive protection under the tax treaty if it is “wrapped” as a pension plan in the UK, meaning it complies with certain rules.

If the SIPP is covered by the tax treaty, you still need to determine if you want to claim protection. If you do, then contributions and gains will not be taxed until distribution. If you do not claim protection, then contributions and gains are reportable, but you may get a Foreign Tax Credit on your US taxes.

UK pensions do not qualify as retirement plans under US tax law because they are not established in the USA. Despite this, the current US/UK income tax treaty allows US persons to claim relief in three ways:

  • On certain contributions to plans
  • On income and gains within the plan before there is a distribution or benefit
  • On amounts drawn from the plan that are UK tax-free

In practice, however, a lack of clarity in the relevant provisions makes applying the treaty relief complicated and subject to interpretation. With SIPPs, for example, while the treaty can protect an individual from US taxation on income and gains in a pension plan, additional reporting obligations for non-US trusts may arise.

In fact, the treaty may not always benefit US taxpayers. In some cases, it makes sense to waive treaty benefits and include income and gains from a pension scheme, particularly with an employer plan. This can happen when the contributions or the full vested accrued benefit can be added to US taxable income with little or no increase in the resulting tax, for example. Doing so allows the basis to build up in the plan for US tax purposes and the individual to use UK tax credits to offset the increased income. If a taxpayer is transferring funds to a SIPP, they may also choose to forgo the treaty and treat the transfer as taxable in the US (but relieved by foreign tax credits).

In such cases, the amounts in question are taxable only once in the US. They should be tracked to ensure that pension payments at retirement take account of previously taxed income for US purposes.

Summary

US taxpayers face complications to keep UK pension savings tax-efficient and comply with US tax reporting requirements. Advice is essential.

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