Is not it true that, even if you invoke the treaty, you only can exclude from income a certain amount of employee contributions, same as one allowed for US employer-sponsored retirement plans (something like up to 17,500 for last year)?
Assume one used up this allowance, then the rest is taxable (even under the treaty), right? One example would be of someone moving from US to UK in mid-year, and maxing out on US pension contributions in order to reduce US source income. In that case, your subsequent contributions to UK pension plan are taxable, right?
So even if you invoke the treaty, sometimes you pay tax on your contributions.
So one could end up accumulating some basis for the retirement, which will later make distributions only partly taxable. I guess the best would be to pay partial tax on contributions (your and your employer's), so as to fully use your foreign income tax credit. That way you maximize the basis for future pension, without paying more taxes.
Clearly, this would work the best for those returning to US after retiring.
I wonder, does anybody actually do it? Is it acceptable from IRS point of view?
Thinking further, there is some restriction on amount employer can contribute pre-tax to employee pension plan. If UK employer contributes more then this amount, which is most probably true for USS, than the excess must be taxable even under the treaty, right?
On the other hand, even the US rules are probably different for defined benefit plans.. Or not?
