Taxation of overseas pensions

There are going to be a number of changes to the taxation of foreign pensions. So far we have no details of how these changes will work, but the policy thrust is clear – more tax will be payable.

The foreign pension proposals can be divided into two parts – those affecting UK residents, and those affecting non-UK residents.

For UK residents, the government says that ‘the tax treatment of foreign pensions will be more closely aligned with the UK’s domestic pension tax regime’. Exactly what this means is not explained, but there are some obvious areas where change may come.

  • Currently, foreign pensions generally qualify for a 10 per cent tax shelter – so if you receive £100, you are only taxed on £90. The reasons for this are historic, and it would be difficult to argue with its abolition.
  • Foreign pensions received by non-doms currently qualify to be taxed on the remittance basis. This treatment could be withdrawn, so that foreign pension income is taxed as it arises. This could be argued to level the playing field with UK pensions, but it would inevitably discourage non-doms from remaining in the UK when drawing a pension.
  • UK pensions have income tax deducted at source. This requirement could be extended to cover foreign pensions as well, but the difficulties in forcing a foreign pension provider to comply may discourage this.

None of these possible changes are welcome. Changing the way pensions are taxed long after they were set up may not technically be retrospective taxation, but it does feel like bad faith. Pensioners will have planned for retirement on the basis of clearly understood rules governing how their pensions would be taxed, and those rules are now in danger of being torn up, at a point where the pensioners have very few options available to protect themselves.

The UK tax treatment of foreign pensions received as a lump sum after leaving the UK is going to change. Currently, non-UK lump sum pension payments will not be subject to UK tax if they are received during a five year period of non-residence. The government proposes to extend the necessary period of absence to 10 years.

It is not yet clear who this will affect. Will anyone who has already left the UK be excluded? What about lump sum payments received before the new rules are enacted? So far, we just don’t know. What we can say with some confidence is that this change will discourage wealthy pensioners from returning to live in the UK any time soon, which cannot be helpful in growing the economy and encouraging inward investment.