HMRC Admin 19 your reply directly contradicts HMRC Admin 19's reply in this thread from 8 days ago "An IRA (Individual Retirement Account) is treated as a pension plan" and HMRC Admin 32’s reply from 3 days ago that said “A traditional IRA withdrawal or lumpsum, is treated as a pension and in taxable as income in the UK”!
I was simply questioning the lump sum part as that should be taxed by the US and not the UK under the terms of the DTA. IRAs (individual retirement accounts) are listed as eligible pension schemes in the US/UK DTA, extract from page 46 of the DTA:
"it is understood that pension schemes shall include the following and any identical or substantially similar schemes which are established pursuant to legislation introduced after the date of signature of the Convention:
(b) under the law of the United States, qualified plans under section 401(a) of the Internal Revenue Code, individual retirement plans (including individual retirement plans that are part of a simplified employee pension plan that satisfies section 408(k), individual retirement accounts, individual retirement annuities, section 408(p) accounts, and Roth IRAs under section 408A), section 403(a) qualified annuity plans, and section 403(b) plans."
Likewise as a pension scheme it should follow that a lump sum from an IRA is taxed according to the DTA:
"2. Notwithstanding the provisions of paragraph 1 of this Article, a lump-sum payment derived from a pension scheme established in a Contracting State and beneficially owned by a resident of the other Contracting State shall be taxable only in the first-mentioned State." The only uncertainty is the definition of a lump sum since it's not defined in the treaty and the IRS and HMRC have different definitions but for example the entire balance of an account is definitely a lump sum (IRS definition), a smaller amount is open to interpretation by HMRC.
I don’t think there is any point asking these kinds of questions on this forum as the replies are contradictory so can’t be relied on!
Thank you HMRC Admin 32 for the reply however I believe that a lump sum distribution from an IRA or 401k would be taxed by the US and not the UK as per Article 17 (2) of the US/UK DTA ? Extract below from the DTA Article 17 dealing with pensions where the first-mentioned state would be the US in this example.
"2. Notwithstanding the provisions of paragraph 1 of this Article, a lump-sum
payment derived from a pension scheme established in a Contracting State and
beneficially owned by a resident of the other Contracting State shall be taxable only in
the first-mentioned State."
Thank you for the prompt reply confirming that the US/UK DTA applies for an IRA. I’m still confused about the foreign interest statement made earlier though so is the following a correct interpretation for a UK tax resident (and not a US citizen/resident):
1) a lump sum IRA or 401k distribution would be taxed by the US and not the UK as per Article 17 (2)
2) any other type of IRA or 401k distribution would be taxed by the UK and not the US as per Article 17 (1)
3) HMRC has determined that a non lump sum IRA distribution will be taxed as foreign interest in the UK.
4) How is a 401k non lump sum distribution treated - as foreign pension income or as foreign interest like an IRA?
Thank you, Fred.
HMRC Admin, please can you also explain how are lump sum withdrawls such as the complete balance from an IRA treated by this legislation that you are referring to? I don't understand how a lump sum withdrawl from an IRA (Individual Retirement Account) can be classed as foreign interest so does this only apply to income received from an IRA which would anyway be taxable in the UK?
HMRC Admin, what specific UK legislation is being used to override the US/UK DTA which defines an IRA as a pension scheme? Please provide a link to the new legislation as this is a major issue for people with US retirement accounts.
HMRC Admin, please can you explain why you consider an IRA should be treated as foreign interest and not a pension? An IRA (Individual Retirement Account) is included in the US/UK DTA definition of a pension as defined in Article 3(1)(o) just like a 401k so what is the justification to treat it differently?
1) I believe you can use the US tax tables because the IRA is considered effectively connected income since the contributions were made from income while working in the US. However 30% tax will likely be withheld and you will need to claim the correct amount on your US tax return.
2) Your IRA brokerage firm will still likely withhold US taxes but you can then claim these back on your next US tax return. The issue is whether it is treated as a lump sum by HMRC - if you see the earlier reply from HMRC Admin 32 then 25% would not be considered a lump sum and hence taxed as income.
Hopefully an HMRC Admin will confirm how this 25% lump sum from a US pension should be treated for UK tax.
Hi ldn360, as I understand it you will have to pay a 10% penalty plus income tax in the US on your Roth IRA earnings/growth if you withdraw under the age of 59.5 but the contributions themselves can be withdrawn tax free as they were made after tax unlike a normal IRA but please double check that. HMRC DT19853 referring to the US/UK DTA states that a distribution from a US Individual Retirement Arrangement or “IRA” to a UK resident will be exempt from tax in the UK to the same extent that the distribution would be exempt from tax in the US. So if you only withdraw your contributions (either all at once or as several smaller withdrawals) and not any earnings/growth from the Roth IRA that would be tax free in the US and hence tax free in the UK. Your Roth IRA provider should be able to break down the growth part of your investment. You’d then need to leave the balance that is the growth on your original contributions until you reach age 59.5 to withdraw the balance without penalty/tax.
If you instead withdraw everything then you’d be taxed in the US on the earnings/growth part plus a 10% penalty on that part but as this would clearly be a lump sum you should not have to pay UK tax on this withdrawal. So you can decide which approach is best for you and also consider if keeping the Roth IRA is worthwhile given its tax free status if you hold it long term.
The advice on an IRA treatment does not seem to be correct. An IRA (Individual Retirement Account) is included in the US UK DTA definition of a pension as defined in Article 3(1)(o) so is treated the same way as a 401k for either lump sums or income and is not treated as foreign interest. Likewise a Roth IRA is treated the same as a Roth 401k. The relevant HMRC manual notes on this are in DT19853.
There needs to be better checking of the advice provided by HMRC Admins on this forum related to complex areas such as foreign tax treaties. Also if incorrect information is inadvertently provided it should be corrected for the record.
The definition of a lump sum is unfortunately not included in the US/UK Dual Taxation Agreement (DTA) or the HMRC tax manual and there have been conflicting replies from HMRC Admins on this forum ranging from a lump sum being anything that is not a periodic payment (e.g. 25% would normally be treated as a lump sum in the UK) to the lump sum is the entire balance of that pension scheme (normal US IRS definition). In the event it is deemed to not be a lump sum then it should only be subject to UK tax under the DTA. However the US pension scheme administrator is still likely to withhold US tax as a precaution which you could then reclaim by submitting a non resident U.S. tax return and reference the DTA as the reason that the tax should have not been applied. This assumes you are a UK resident and don’t have US citizenship or a green card as then you are liable for US tax on all your income.
Just to add this is my understanding but I’m not a tax professional!