I. Information Reporting for Foreign Pensions and Trusts Defined Benefit Plans • A literal description of this type of plan – the benefit that the employee will receive is defined by the terms of the plan. The terms of this type of plan can be based on a variety of factors (years work, amount earned over a certain period, amount earned in year of retirement etc) but the periodic future distributions to employees will always be defined by the terms of the plan. 16
I. Information Reporting for Foreign Pensions and Trusts Defined Benefit Plans Information reporting So what can we report if we wanted to? • FBAR? We have no account number or account value. • Form 8938? we have no account number or account value. We might be able to calculate a present value of a future stream of income, however, the true value of many defined benefit plans is only known once the taxpayer retires. • Form 3520? Form 3520-A? 17
I. Information Reporting for Foreign Pensions and Trusts Defined Benefit Plans are the easiest foreign plans to report. 18
I. Information Reporting for Foreign Pensions and Trusts Defined Contribution Plans • Defined contribution plans are characterized by an account balance that reflects the contributions to the plan earmarked for the particular employee. These accounts are separated by employee. The future benefits are based entirely on the value of the account which in turn is based on the amount contributed and any associated growth of those amounts. The typical U.S. example of a defined contribution plan is the 401(k). An employee funds a 401(k) (with or without an employer match) and has an interest in that plan to the extent that he/she has funded it in addition to the extent that employer contributions to his/her plan have vested. 19
I. Information Reporting for Foreign Pensions and Trusts Defined Contribution Plans • The employee carries the risk/reward for the performance of the investments in a defined contribution plan. There is no guarantee that amounts contributed will be available upon retirement. 20
I. Information Reporting for Foreign Pensions and Trusts Defined Contribution Plans • Employees do have accounts associated with this type of plan. They typically receive annual statements providing an updated account balance as well as reporting on the performance of their retirement plan. 21
I. Information Reporting for Foreign Pensions and Trusts Defined Contribution Plans • A literal description of this type of plan – the contributions to the plan are defined and an employee’s benefit will be based on the amount of contributions and the performance of those contributions. 22
I. Information Reporting for Foreign Pensions and Trusts Social Security • Social security is the government mandated defined benefit plan in the U.S. Both wage earners and self-employed taxpayers make contributions to social security annually. 23
I. Information Reporting for Foreign Pensions and Trusts Social Security • Like other defined benefit plans, the benefit that taxpayers expect to receive from social security is defined and is determined by application of a formula. This formula is applied to their highest earning thirty five years. 24
I. Information Reporting for Foreign Pensions and Trusts Social Security • Like other defined benefit plans, the benefit that taxpayers expect to receive from social security is defined and is determined by application of a formula. This formula is applied to their highest earning thirty five years. 40 quarters of maximum contributions = maximum benefit. •There’s actually stories of self -self-employed individuals filing fraudulent returns showing more self-employment liabilities than they owed in order to get the maximum social security pay out. Benefits are calculated on what you should have paid, not what you actually paid. 25
I. Information Reporting for Foreign Pensions and Trusts Let’s figure out what we have Classification of foreign retirement plans • Foreign retirement plans have independent filing requirements with the United States when they are directly invested in the United States and are generating U.S. source income. Most of the foreign retirement plans that are reportable in the United States are reportable because they are funded by, owned by, or are distributing to U.S. persons . • This means the first step in evaluating the required informational reporting for a foreign retirement plan is determining when and how the Taxpayer became a U.S. person. This will also help you to determine if adequate reporting has been done for prior years and if the Taxpayer should amend previous returns. 26
I. Information Reporting for Foreign Pensions and Trusts Classification of foreign retirement plans When attempting to understand a foreign retirement plan, always start with the Taxpayer’s explanation of that plan. It is possible that the taxpayer may not be able to provide all of the required information relating to the foreign retirement plan. A thorough review of the plan documentation may provide additional information (and be aware that this review may often contradict information provided by the Taxpayer.) Often the Taxpayer is the best resource in acquiring plan documentation that has been translated into English. And no, you are no required to get certified translations. 27
I. Information Reporting for Foreign Pensions and Trusts Classification of foreign retirement plans Lastly, it is often useful to independently research the mechanics of the retirement system and the retirement plans in the country in which the Taxpayer has a retirement plan. There’s a host of arguments you might be able to make by knowing a little bit more about the country in which your client has retirement plan. Thing like: 28
I. Information Reporting for Foreign Pensions and Trusts Like… 1.Determine when and how the plan was opened. Was the plan opened by the employer or the employee? Was the plan open incidentally to employment or was it independently opened by the Taxpayer? 2.Determine when and how the plan was funded. Determine the percentage of contributions that were made by the employee and the percentage that were made by the employer. 3.Determine how the plan distributes and how the amount distributed is determined. 4.Determine if contributions to the plan are pre-tax or post-tax in the foreign jurisdiction. 5.Determine if distributions from the plan are taxable or non-taxable in the foreign jurisdiction. 6.Gather information regarding plan participation by other employees, including: is the plan government mandated for all employees? Is the plan available to all employees? Is the plan only available to executives or highly compensated employees? 29
I. Information Reporting for Foreign Pensions and Trusts Now determine the Appropriate U.S. Analogue to the Foreign Retirement Plan… Using the gathered information, determine whether the plan is a defined contribution plan or a defined benefit plan. The outcome of this analysis will significantly impact the informational reporting required. 30
I. Information Reporting for Foreign Pensions and Trusts And what about foreign annuities… • Foreign annuities, like domestic annuities, are taxable under IRC 72. IRC 72 does have some special provisions for determining your cost in the contract for contributions that were made when the taxpayer was a nonresident alien. Nonresident alien contributions that were not taxable in the U.S. or a foreign country are not included in your cost in the contract. 31
I. Information Reporting for Foreign Pensions and Trusts And what about foreign annuities… • For example, if an annuity begins distributing in the first year that a Taxpayer becomes a U.S. person, the Taxpayers contributions were not taxable in the foreign country and the growth was not taxable in the foreign country, then the full amount of the distribution will be taxable in the U.S. when it is distributed. 32
I. Information Reporting for Foreign Pensions and Trusts Foreign social security • Not all foreign countries have social security programs that are similar to the U.S. social security, so it is necessary to review the details of the foreign social security plans to confirm that it functions like a defined benefit plan. 33
I. Information Reporting for Foreign Pensions and Trusts International Information Reporting Forms Relevant to Foreign Retirement Plans Overview 3520, 3520-A, 8938, FBAR, 8865 and 5471 The purpose of this section is to provide some context for these forms so that listeners can understand the more thorough 402(b) and grantor trust analysis later, as well as to give them an understanding of the filing mechanics as disregarding these mechanics can result in failure to file penalties. 34
I. Information Reporting for Foreign Pensions and Trusts Form 3520: Annual Return To Report Transactions With Foreign Trusts and Receipt of Certain Foreign Gifts Form 3520 is required to report a transfer to a foreign trust (Part 1), ownership of a foreign trust (Part 2), a distribution to a U.S. person from a foreign trust (Part 3) and gifts from foreign persons and foreign entities (Part 4). Form 3520 is required in many circumstances in which Form 3520-A is not. 35
I. Information Reporting for Foreign Pensions and Trusts Form 3520: Annual Return To Report Transactions With Foreign Trusts and Receipt of Certain Foreign Gifts Form 3520 is often required when reporting transactions between a foreign retirement plan and a Taxpayer (contributions to, ownership of, and distributions from) because the U.S. generally treats foreign retirement plans as trusts. There are a number of exceptions to 3520 reporting for foreign retirement plans, the most significant exception coming from 402(b). 36
I. Information Reporting for Foreign Pensions and Trusts Form 3520: Annual Return To Report Transactions With Foreign Trusts and Receipt of Certain Foreign Gifts Form 3520 is due on the due date for a Taxpayer’s personal 1040, including six month extensions and the automatic 2-month extension for Taxpayers living outside of the U.S., but note that if an extension has been filed for the Taxpayer’s personal return that this must be indicated on form 3520 (page 1 line k) and for Taxpayer’s utilizing the automatic 2 -month extension, a statement indicating that you live outside of the U.S. and qualify for the automatic 2-month extension. Including this statement is important as failure to do so can result in a failure to file penalty for your Form 3520. 37
I. Information Reporting for Foreign Pensions and Trusts Form 3520: Annual Return To Report Transactions With Foreign Trusts and Receipt of Certain Foreign Gifts Form 3520 has special mailing instructions and is not filed with the 1040. Form 3520 is mailed to: Internal Revenue Service Center, P.O. Box 409101 Ogden, UT 84409 38
I. Information Reporting for Foreign Pensions and Trusts Form 3520-A: Annual Information Return of Foreign Trust With a U.S. Owner Form 3520-A is only required when the foreign retirement plan is treated as having a U.S. owner (see 402(b) and grantor trust sections later). 39
I. Information Reporting for Foreign Pensions and Trusts Form 3520-A: Annual Information Return of Foreign Trust With a U.S. Owner Whenever a Taxpayer has a 3520-A requirement, they have a corresponding Part II 3520 requirement. 40
I. Information Reporting for Foreign Pensions and Trusts Form 3520-A: Annual Information Return of Foreign Trust With a U.S. Owner Form 3520-A requires a complete accounting of the activity of the foreign trust (income statement and balance sheet) as well as a summary of the U.S. Taxpayer’s relationship to the foreign trust and the income that flows through to the Taxpayer. International accounting standards must be converted to GAAP. Not using GAAP can be tantamount to filing “substantially incomplete.” 41
I. Information Reporting for Foreign Pensions and Trusts Form 3520-A: Annual Information Return of Foreign Trust With a U.S. Owner There are two different ways to file Form 3520-A: • The Form 3520- A can be filed ‘by the trust’ or, • A substitute Form 3520-A can be filed by the Taxpayer. 42
I. Information Reporting for Foreign Pensions and Trusts Form 3520-A: Annual Information Return of Foreign Trust With a U.S. Owner The deadlines and filing requirements for Form 3520-A change depending on which method is utilized. • A Form 3520-A that is being filed by the trust must be filed by the 15 th day of the third month after the end of the trust’s tax year, which generally means by March 15 th . This means that, despite the fact that the filing obligation arises through the Taxpayer, Form 3520-A has an earlier deadline than the Taxpayer’s personal return. • Another important note regarding the mechanics of filing Form 3520-A on behalf of the trust is that it is not filed under the Taxpayer’s identifying number, and instead requires its own employer identification number. 43
I. Information Reporting for Foreign Pensions and Trusts Form 3520-A: Annual Information Return of Foreign Trust With a U.S. Owner • A Form 3520- A being filed ‘by the trust’ can extend the due date for filing by six months by filing form 7004. Again it is important to note that this 7004 must have the trust’s EIN. 44
I. Information Reporting for Foreign Pensions and Trusts Form 8938: Statement of Specified Foreign Financial Assets •Form 8938 is commonly referred to as the “FATCA” form and is effectively the tax version of the FBAR. • Created in Hire Act of 2010 (FATCA was a PAYGO offset). Meaning prior to 2010, there was no Form 8938 filing obligation. • Failure to file one (or filing one substantially incomplete) when required keeps the entire return open, just like Form 5471, form 3520-A, Form 3520, and others. 45
I. Information Reporting for Foreign Pensions and Trusts Form 8938: Statement of Specified Foreign Financial Assets Form 8938 requires information on a Taxpayer’s foreign accounts as well as a Taxpayer’s ‘other assets’. This is an important distinction from FBAR reporting and can result in differences in the FBAR reporting regarding foreign retirement plans and the Form 8938 reporting. 46
I. Information Reporting for Foreign Pensions and Trusts Form 8938: Statement of Specified Foreign Financial Assets Foreign retirement plans that are adequately disclosed on other international information forms do not have to be separately listed on part V or part VI of Form 8938 and instead the number of international information forms filed for the retirement plan is disclosed on part IV of Form 8938, Excepted Specified Foreign Financial Assets. 47
I. Information Reporting for Foreign Pensions and Trusts Form 8938: Statement of Specified Foreign Financial Assets • Any foreign retirement plans that are not included on part IV of Form 8938 and are not disclosed on form 3520 or form 3520-A, do need to be included on Form 8938. • For example, if you have a foreign defined benefit plan that has begun distributing, this plan will be disclosed on part VI of Form 8938 as an ‘other asset’ to the extent that there are distributions in the current year. • A second example – if you have a 402(b) foreign retirement plan that is exempted from Form 3520 and Form 3520-A reporting, you will include that plan’s accounts on part V of Form 8938. 48
I. Information Reporting for Foreign Pensions and Trusts FBAR: Report of Foreign Bank and Financial Accounts • The FBAR is the reporting form for (1) financial interest in, or (2) signatory authority over foreign accounts. • The FBAR is filed separately from your tax return and is due on April 15 th with an automatic extension to October 15 th for filers who do not file by October 15 th . The old rule had all FBARs filed on June 30th. • If TFFAAA is passed, we believe FBAR reporting will still be required. 49
Part II: Foreign Grantor Trust v. Foreign Nongrantor Trust Overview Sean J. O’Connor, Esq. Supervising Attorney Parent & Parent LLP sjo@irsmedic.com
II. Foreign Grantor Trust v. Foreign Nongrantor Trust Overview Foreign Nongrantor Trusts: Foreign Grantor Trusts: - Respected as separate Legal entities for U.S. - Not respected as separate Legal entities for tax purposes. U.S. tax purposes. - Not disregarded under the grantor trust rules. - One or more U.S. persons treated as owning the foreign trust under the “grantor trust - 1040-NR filing obligation for U.S. source income for the trust. rules” IRC 671 -679. - Income, expenses, and asset ownership flow - Transfers to nongrantor trust can result in through to the U.S. owners and maintain their gain recognition for U.S. transferor. character. (no deferral) - Gift tax consequences on transfers to - No gift tax consequences for transfers in. nongrantor trusts. - No accumulation distribution or throwback - U.S. beneficiaries subject to accumulation tax computations. distribution and throwback tax rules and must complete Form 3520 part III. 52
53
Part III: 402(b) Employees’ Trust Sean J. O’Connor, Esq. Supervising Attorney Parent & Parent LLP sjo@irsmedic.com 54
III. 402(b) Employees’ Trust • 402(b) Employees’ trusts are nonexempt trusts. • 402(b) Employees’ trusts are excepted from the grantor trust rules. • 402(b) Employees’ trusts are trusts that would otherwise be grantor trusts but for this exception. • Official guidance for 402(b) employees’ trust application to foreign retirement plans is limited. 55
IRC 402(b)(1) (b) Taxability of beneficiary of nonexempt trust (1) Contributions • Contributions to an employees’ trust made by an employer during a taxable year of the employer which ends with or within a taxable year of the trust for which the trust is not exempt from tax under section 501(a) shall be included in the gross income of the employee in accordance with section 83 (relating to property transferred in connection with performance of services), except that the value of the employee’s interest in the trust shall be substituted for the fair market value of the property for purposes of applying such section. 56
IRC 402(b)(2) – (2) Distributions • The amount actually distributed or made available to any distributee by any trust described in paragraph (1) shall be taxable to the distributee, in the taxable year in which so distributed or made available, under section 72 (relating to annuities), except that distributions of income of such trust before the annuity starting date (as defined in section 72(c)(4)) shall be included in the gross income of the employee without regard to section 72(e)(5) (relating to amounts not received as annuities). 57
26 U.S. Code § 72(f) – (f) Special rules for computing employees’ contributions. In computing, for purposes of subsection (c)(1)(A), the aggregate amount of premiums or other consideration paid for the contract, and for purposes of subsection (e)(6), the aggregate premiums or other consideration paid, amounts contributed by the employer shall be included, but only to the extent that — – (1) such amounts were includible in the gross income of the employee under this subtitle or prior income tax laws; or – (2) if such amounts had been paid directly to the employee at the time they were contributed, they would not have been includible in the gross income of the employee under the law applicable at the time of such contribution. – Paragraph (2) shall not apply to amounts which were contributed by the employer after December 31, 1962, and which would not have been includible in the gross income of the employee by reason of the application of section 911 if such amounts had been paid directly to the employee at the time of contribution… 58
26 U.S. Code § 72(w) • (w) Application of basis rules to nonresident aliens – (1) In general – Notwithstanding any other provision of this section, for purposes of determining the portion of any distribution which is includible in gross income of a distributee who is a citizen or resident of the United States, the investment in the contract shall not include any applicable nontaxable contributions or applicable nontaxable earnings. – (2) Applicable nontaxable contributionFor purposes of this subsection, the term “applicable nontaxable contribution” means any employer or employee contribution— • (A) which was made with respect to compensation — – (i) for labor or personal services performed by an employee who, at the time the labor or services were performed, was a nonresident alien for purposes of the laws of the United States in effect at such time, and – (ii) which is treated as from sources without the United States, and • (B) which was not subject to income tax (and would have been subject to income tax if paid as cash compensation when the services were rendered) under the laws of the United States or any foreign country. – (3) Applicable nontaxable earningsFor purposes of this subsection, the term “applicable nontaxable earnings” means earnings— • (A) which are paid or accrued with respect to any employer or employee contribution which was made with respect to compensation for labor or personal services performed by an employee, • (B) with respect to which the employee was at the time the earnings were paid or accrued a nonresident alien for purposes of the laws of the United States, and • (C) which were not subject to income tax under the laws of the United States or any foreign country. 59
IRC 402(b)(3) – (3) Grantor Trusts • A beneficiary of any trust described in paragraph (1) shall not be considered the owner of any portion of such trust under subpart E of part I of subchapter J (relating to grantors and others treated as substantial owners). 60
26 CFR 1.402(b)-1(b)(6) – (6) Treatment as owner of trust. • In general, a beneficiary of a trust to which this section applies may not be considered to be the owner under subpart E, part I, subchapter J, chapter I of the Code of any portion of such trust which is attributable to contributions to such trust made by the employer after August 1, 1969, or to incidental contributions made by the employee after such date. However, where contributions made by the employee are not incidental when compared to contributions made by the employer, such beneficiary shall be considered to be the owner of the portion of the trust attributable to contributions made by the employee, if the applicable requirements of such subpart E are satisfied. For purposes of this paragraph (6), contributions made by an employee are not incidental when compared to contributions made by the employer if the employee's total contributions as of any date exceed the employer's total contributions on behalf of the employee as of such date. 61
IRC 402(b)(4) – (4) Failure to meet requirements of section 410(b) • (A) Highly compensated employees If 1 of the reasons a trust is not exempt from tax under section 501(a) is the failure of the plan of which it is a part to meet the requirements of section 401(a)(26) or 410(b), then a highly compensated employee shall, in lieu of the amount determined under paragraph (1) or (2) include in gross income for the taxable year with or within which the taxable year of the trust ends an amount equal to the vested accrued benefit of such employee (other than the employee’s investment in the contract) as of the close of such taxable year of the trust. • (B) Failure to meet coverage tests If a trust is not exempt from tax under section 501(a) for any taxable year solely because such trust is part of a plan which fails to meet the requirements of section 401(a)(26) or 410(b), paragraphs (1) and (2) shall not apply by reason of such failure to any employee who was not a highly compensated employee during — – (i) such taxable year, or – (ii) any preceding period for which service was creditable to such employee under the plan. • (C) Highly compensated employee For purposes of this paragraph, the term “highly compensated employee” has the meaning given such term by section 414(q). 62
Additional 402(b) Guidance • IRS Memoranda • Private Letter Rulings • FOIA Australian Superannuation Materials • More guidance is needed and has been requested (ABA and GAO) 63
Informational Reporting for Foreign 402(b) Plans • Do 402(b) plans require Form 3520-A? • Do 402(b) plans require Form 3520 part I or part II? • Do 402(b) plans require Form 3520 part III? • Do 402(b) plans need to be reported on Form 8938? • Do 402(b) plans need to be reported on FBARs? • Is Form 8621 required for foreign mutual funds within a 402(b) plan? 64
Overview of How To Approach a 402(b) Trust Step 1 – Understand the plan. • Review plan documentation and discuss the mechanics of the plan with your client. • Gather details on taxpayer and employer contributions, including the vesting details for employer contributions. • Determine if this is a government mandated plan. • Determine if taxpayer made any additional voluntary contributions. • Determine if the taxpayer paid taxes in the U.S. or in a foreign country on the contributions to the plan (when made or when vested). • Determine if the taxpayer has paid any taxes on the growth of the plan • Determine if the taxpayer has or will have to pay taxes on the distributions from the plan in the foreign country. • Gather information to determine if the taxpayer will be considered a highly compensated employee. 65
Overview of How To Approach a 402(b) Trust Step 2 – Determine the client’s interactions with the plan. • Is the plan still being funded? • Is it accumulating for future distribution upon reaching retirement age? • Are the funds presently available for distribution and are there any limitations on those distributions? • Has the plan ever been ‘rolled’ over? 66
Overview of How To Approach a 402(b) Trust Step 3 – Review the relevant tax treaty. • This is a critical step that will be addressed in more detail later. Step 4 – Explain the issues to your client. • The IRS processes these plans inconsistently, even at audit. • The official guidance relating to 402(b) is inconsistent. • Explain the potential financial impact of a contrary determination. 67
Foreign Retirement Plans Classified as Grantor Trusts Issues Overview • Grantor Trust Rules (When is a foreign retirement plan a grantor trust?) • Form 3520 and Form 3520-A Reporting for Foreign Grantor Trusts (“FGTs”) • Practice Tips for Preparing Form 3520 and Form 3520-A. • FGTs with Corporate Trustees and Form 5471. • Interaction between FGTs and Form 8621, Form 8938, and FBAR Reporting. 68
Part IV: Grantor Trust Rules Sean J. O’Connor, Esq. Supervising Attorney Parent & Parent LLP sjo@irsmedic.com 69
Grantor Trust Rules • 26 U.S. Code § 671 - Trust income, deductions, and credits attributable to grantors and others as substantial owners • 26 U.S. Code § 673 - Reversionary interests • 26 U.S. Code § 674 - Power to control beneficial enjoyment • 26 U.S. Code § 675 - Administrative powers • 26 U.S. Code § 676 - Power to revoke • 26 U.S. Code § 677 - Income for benefit of grantor • 26 U.S. Code § 678 - Person other than grantor treated as substantial owner • 26 U.S. Code § 679 - Foreign trusts having one or more United States beneficiaries 70
Form 3520 and Form 3520-A Reporting for Foreign Grantor Trusts • Form 3520 and Form 3520-A or Form 3520 and a substitute Form 3520-A need to be prepared for every retirement plan classified as a foreign grantor trust. • Form 3520 Line 22 71
Form 3520 and Form 3520-A Reporting for Foreign Grantor Trusts • Form 3520 Line 13 – FMV. Realized gain on appreciated assets. Notes in exchange for contributions. 72
Form 3520 and Form 3520-A Reporting for Foreign Grantor Trusts • Form 3520 Line 29 – Beneficiary Statement for Distributions 73
Form 3520 and Form 3520-A Practice Tips • Conversion rates • Calendar year reporting • Accounting in accordance with GAAP • Appointing a U.S. agent • Owner statement and Beneficiary statement 74
Corporate Trustees for Foreign Retirement Plans • Taxpayers are the sole members of a corporation that serves as trustee for the foreign retirement plan. • Form 5471 reporting is required. • Do not need for duplicative reporting of assets and income. • Separate failure to file penalty for 5471. • Doesn’t insulate Taxpayer from having signatory authority over underlying accounts. 75
Trust Bifurcation: FGT and 402(b) If Taxpayer contributed $60 and employer contributed $40 • $60 Grantor Trust. • $40 Employees’ Trust. • 60% of plan growth is taxed • 40% of plan growth is tax deferred. annually via 3520-A. • 40% of plan value is taxable • 60% of plan value is not upon distribution via IRC 72. taxable upon distribution. • Allocate assets evenly. • Allocate assets evenly. 76
V. The Applicability of Tax Treaties Robert V. Hanson, Esq. Lead International Attorney Parent & Parent LLP rvh@irsmedic.com
Treaty benefits? • US Tax Treaties may provide relief from double taxation (or even single taxation). • Beware of the “savings clause.” • Not all treaties are created equal. 79
Usual Tax Treaty Resources 1. Treaty 2. Protocol 3. Technical Explanation 4. Memorandum of Understanding 5. Exchange of Notes 80
Typical Examples • UK pensions • Swiss Pillar I, II, and III pensions • Singaporean CPFs • Malaysian CPFs • Hong Kong MPFs • German pensions • Australian superannuation funds 81
Case Studies • US-UK Treaty (2001) • US-Germany Treaty (1989) • US-Australia Treaty (1982) 82
United States // United kingdom Case 1 83
US-UK Scenario • A client calls you in a panic. She just learned that she might have a problem with the pension she has with her in the UK. It is pension provided and funded by her employer exclusively. • You have determined that it is a grantor’s trust. Can the US -UK treaty help? 84
US-UK Treaty 85
Start with the “Savings Clause” Article 1 • 4. Notwithstanding any provision of this Convention except paragraph 5 of this Article, a Contracting State may tax its residents (as determined under Article 4 (Residence)), and by reason of citizenship may tax its citizens, as if this Convention had not come into effect. 86
US- UK Treaty “claw - back” Original (2001) Article 1 Protocol (2001) Article 1 • 5. The provisions of paragraph 4 of this Article shall not • The provisions of paragraph 4 of this Article shall not affect: affect: a) the benefits conferred by a Contracting State under a) the benefits conferred by a Contracting State under paragraph 2 of Article 9 (Associated Enterprises), sub- paragraph 2 of Article 9 (Associated Enterprises), sub- paragraph b) of paragraph 1 and paragraphs 3 and 5 paragraph b) of paragraph 1 and paragraphs 3 and 5 of of Article 17 (Pensions, Social Security, Annuities, Article 17 (Pensions, Social Security, Annuities, Alimony, and Child Support), paragraph 1 of Article 18 Alimony, and Child Support), paragraphs 1 and 5 of Article 18 (Pension Schemes) and Articles 24 (Relief (Pension Schemes) and Articles 24 (Relief From Double From Double Taxation), 25 (Non-discrimination), and 26 Taxation), 25 (Non-discrimination), and 26 (Mutual (Mutual Agreement Procedure) of this Convention; and Agreement Procedure) of this Convention; and b) the benefits conferred by a Contracting State under b) the benefits conferred by a Contracting State under paragraph 2 of Article 18 (Pension Schemes) and paragraph 2 of Article 18 (Pension Schemes) and Articles 19 (Government Service), 20 (Students), 20A Articles 19 (Government Service), 20 (Students), and 28 (Teachers), and 28 (Diplomatic Agents and Consular (Diplomatic Agents and Consular Officers) of this Officers) of this Convention, upon individuals who are Convention, upon individuals who are neither citizens neither citizens of, nor have been admitted for of, nor have been admitted for permanent residence permanent residence in, that State.” in, that State. 87
US-UK Tax Treaty Article 17 Pensions, Social Security, Annuities, Alimony, and Child Support 1. a). . . • b) Notwithstanding sub-paragraph a) of this paragraph, the amount of any such pension or remuneration paid from a pension scheme established in the other Contracting State that would be exempt from taxation in that other State if the beneficial owner were a resident thereof shall be exempt from taxation in the first- mentioned State . • 3. Notwithstanding the provisions of paragraph 1 of this Article, payments made by a Contracting State under the provisions of the social security or similar legislation of that State to a resident of the other Contracting State shall be taxable only in that other State. • 5. Periodic payments, made pursuant to a written separation agreement or a decree of divorce, separate maintenance, or compulsory support, including payments for the support of a child, paid by a resident of a Contracting State to a resident of the other Contracting State, shall be exempt from tax in both Contracting States, except that, if the payer is entitled to relief from tax for such payments in the first-mentioned State, such payments shall be taxable only in the other State. 88
US-UK Tax Treaty Article 18 Pension Schemes • 1. Where an individual who is a resident of a Contracting State is a member or beneficiary of, or participant in, a pension scheme established in the other Contracting State, income earned by the pension scheme may be taxed as income of that individual only when, and, subject to paragraphs 1 and 2 of Article 17 (Pensions, Social Security, Annuities, Alimony, and Child Support) of this Convention, to the extent that, it is paid to, or for the benefit of, that individual from the pension scheme (and not transferred to another pension scheme). • 2. Where an individual who is a member or beneficiary of, or participant in, a pension scheme established in a Contracting State exercises an employment or self-employment in the other Contracting State: • a) contributions paid by or on behalf of that individual to the pension scheme during the period that he exercises an employment or self-employment in the other State shall be deductible (or excludable) in computing his taxable income in that other State; and • b) any benefits accrued under the pension scheme, or contributions made to the pension scheme by or on behalf of the individual’s employer, during that period shall not be treated as part of the employee’s taxable income and any such contributions shall be allowed as a deduction in computing the business profits of his employer in that other State. The reliefs available under this paragraph shall not exceed the reliefs that would be allowed by the other State to residents of that State for contributions to, or benefits accrued under, a pension scheme established in that State. 89
US-UK ARTICLE 18 Pension Schemes (Cont.) 5. • a) Where a citizen of the United States who is a resident of the United Kingdom exercises an employment in the United Kingdom the income from which is taxable in the United Kingdom and is borne by an employer who is a resident of the United Kingdom or by a permanent establishment situated in the United Kingdom, and the individual is a member or beneficiary of, or participant in, a pension scheme established in the United Kingdom, • (i) contributions paid by or on behalf of that individual to the pension scheme during the period that he exercises the employment in the United Kingdom, and that are attributable to the employment, shall be deductible (or excludable) in computing his taxable income in the United States; and • (ii) any benefits accrued under the pension scheme, or contributions made to the pension scheme by or on behalf of the individual’s employer, during that period, and that are attributable to the employment, shall not be treated as part of the employee’s taxable income in computing his taxable income in the United States. This paragraph shall apply only to the extent that the contributions or benefits qualify for tax relief in the United Kingdom. • b) The reliefs available under this paragraph shall not exceed the reliefs that would be allowed by the United States to its residents for contributions to, or benefits accrued under, a generally corresponding pension scheme established in the United States. • c) For purposes of determining an individual’s eligibility to participate in and receive tax benefits with respect to a pension scheme established in the United States, contributions made to, or benefits accrued under, a pension scheme established in the United Kingdom shall be treated as contributions or benefits under a generally corresponding pension scheme established in the United States to the extent reliefs are available to the individual under this paragraph. • d) This paragraph shall not apply unless the competent authority of the United States has agreed that the pension scheme generally corresponds to a pension scheme established in the United States 90
Result 1. Article 18 p1: Won’t apply to a US person living in the UK who holds a UK pension. 2. Article 18 p5: • No taxable contributions • No taxable growth Note: The relief is in the body of the treaty, but the protocol has the fix for the savings clause. 91
United States // Germany Case 2 92
Scenario • Taxpayer, a US citizen, calls you. He lives in Germany, works for a German employer, and holds an employer funded pension that both he and his employer contribute to. He just read an article online about possible reporting for foreign pensions and trusts, and he is afraid he might owe tax. 93
US-Germany Treaty 94
US-GER – Savings Clause “claw - back” Original 1989 Protocol 2006 • b) The provisions of subparagraph a) shall not affect • 5. The provisions of paragraph 4 shall not affect the the benefits conferred by the United States benefits conferred by the United States: a) under paragraph 2 of Article 9 (Associated Enterprises), aa) under paragraph 2 of Article 9 (Associated paragraph 6 of Article 13 (Gains), paragraphs 3, 4 and Enterprises), paragraph 6 of Article 13 (Gains), 5 of Article 18 (Pensions, Annuities, Alimony, Child paragraphs 3 and 4 of Article 18 (Pensions, Support, and Social Security), paragraph 1 and 5 of Annuities, Alimony, and Child Support) and Article 18A (Pension Plans), paragraph 3 of Article 19 paragraphs 1 c) and 2 of Article 19 (Government (Government Service), and under Articles 23 (Relief Service; Social Security), and under Articles 23 (Relief from Double Taxation), 24 (Nondiscrimination), and from Double Taxation), 24 (Nondiscrimination), and 25 (Mutual Agreement Procedure); and 25 (Mutual Agreement Procedure); and b) under paragraph 2 of Article18A (Pension Plans), bb) under paragraph 1 b) of Article 19 (Government subparagraph b) of paragraph 1 of Article 19 Service; Social Security), and under Articles 20 (Government Service), and under Articles 20 (Visiting (Visiting Professors and Teachers; Students and Professors and Teachers; Students and Trainees) and Trainees) and 30 (Members of Diplomatic Missions 30 (Members of Diplomatic Missions and Consular and Consular Posts), upon individuals who are neither Posts), upon individuals who are neither citizens of, citizens of, nor have immigrant status in, the United nor have immigrant status in, the United States. States. 95
US-GER PENSION PROVISIONS 18 Original 1989 • 1 c) Pensions, annuities, and other amounts paid by one of the Contracting States or by a juridical Protocol 2006 person organized under the public laws of that • 5. Social security benefits paid under the State as compensation for an injury or damage sustained as a result of hostilities or political social security legislation of a Contracting persecution shall be exempt from tax by the other State and other public pensions (not dealt State. with in Article 19 (Government Service)) paid by a Contracting State to a resident of • 2. Social security benefits paid under the social the other Contracting State shall be taxable security legislation of a Contracting State and only in that other Contracting State. In other public pensions (not dealt with in paragraph applying the preceding sentence, that other 1) paid by a Contracting State to a resident of the Contracting State shall treat such benefit or other Contracting State shall he taxable only in pension as though it were a social security that other Contracting State. In applying the preceding sentence, that other Contracting State benefit paid under the social security shall treat such benefit or pension as though it legislation of that other Contracting State. were a social security benefit paid under the social security legislation of that other Contracting State. 96
Article 18A Pension Plans • 5. a) Where a citizen of the United States who is a resident of the Federal Republic of Germany exercises an employment in the Federal Republic of Germany the income from which is taxable in the Federal Republic of Germany and is borne by an employer who is a resident of the Federal Republic of Germany or by a permanent establishment situated in the Federal Republic of Germany, and the individual is a beneficiary of, or participant in, a pension plan established in the Federal Republic of Germany, aa) contributions paid by or on behalf of that individual to the pension plan during the period or attributable to the period that he exercises the employment in the Federal Republic of Germany, and that are attributable to the employment, shall be deductible (or excludable) in computing his taxable income in the United States; and bb) any benefits accrued under the pension plan, or contributions made to the pension plan by or on behalf of the individual’s employer, during that period or attributable to that period, and that are attributable to the employment, shall not be treated as part of the employee’s taxable income in computing his taxable income in the United States. This paragraph shall apply only to the extent that the contributions or benefits qualify for tax relief in the Federal Republic of Germany. 97
Article 18A Pension Plans (cont.) • b) The relief available under this paragraph shall not exceed the relief that would be allowed by the United States to its residents for contributions to, or benefits accrued under, a generally corresponding pension plan established in the United States. c) For purposes of determining an individual’s eligibility to participate in and receive tax benefits with respect to a pension plan established in the United States, contributions made to, or benefits accrued under, a pension plan established in the Federal Republic of Germany shall be treated as contributions or benefits under a generally corresponding pension plan established in the United States to the extent relief is available to the individual under this paragraph. d) This paragraph shall not apply unless the competent authority of the United States has agreed that the pension plan generally corresponds to a pension plan established in the United States. 98
Result 1. Article 18 won’t apply to a US citizen residing in Germany. 2. Article 18A • No tax on contributions • No tax on growth, with caveats. Note: The relieving article is in the protocol, not the main body of the tax treaty. 99
United States // Australia Case 3 100
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