IRA question and is this a good plan?

Hi!

Husband and I will be moving to the UK soon.  At this time, we're planning on moving back to the states eventually, but will stay in the UK at least 3-5 years.

We figure we can make an IRA contribution for 2006 as we lived and earned income as US citizens.  Will we be able to contribute to our IRA for 2007 if we're full-time UK residents?  My husband and I are concerned about not being able to invest towards retirement (either 401k or IRA) while we're in the UK.

Since we know we will be visiting the states (and other countries) while living in the UK, we were planning on keeping a US Bank acocunt and US credit cards.  We will likely add one of our parents onto the account so that they can withdraw or deposit money for us.  We will therefore be able to continue to pay student loans through that US bank account and can use the US credit cards while in the states to avoid any exchange-rate issues.  We will also still have savings and CDs with our ING account, and investments (e*trade, fidelity) as well.  Is it feasible for us to do this?  We would change our US address to one of our parents, but could there be problems if we do that while our technical domicile is somewhere else?

Any insight is appreciated!
~Sonja

Sonja - you are asking the right questions.

You may have options of joining a UK pension plan, deducting US pension/IRA contributions on your UK tax returns or indeed doing both.  You will need to seek advice from a dual qualified US/UK tax adviser.

There are no general problems in maintaining US investments so long as you seperate income and capital gains from capital if you ever intend to remit any of the funds to the UK.

You use the word "domicile".  I suggest you take advice as to where you will be considered domiciled while in the UK.  It is unlikely to be any of the 4 nations that constitute the United Kingdom.

Be careful of contributing to IRAs while abroad.  If you take up a job in the UK and get taxed by UK Inland Revenue you will most likely take the Foreign Earned Income Deduction or the Foreign Tax Credit which would effectively make your adjusted gross income $0 or near to $0.  You can't contribute to IRAs with your AGI is less than your contributions.  I found this out the hard way (having once had to pay a small penalty amount to the IRS) and then having to withdrawal my contributions and any interest earned.  The money that's already been invested is fine to stay in there but I wouldn't start contributing again until you are back in the States and paying taxes there.

Good to know, thanks!

I am guessing that we would both be able to make our contributions for this year, however as we'll have some US income this year, correct?

Yes, if you're making enough taxable income to equal or exceed the contribution amounts then there shouldn't be a problem.

The point that mattj74 is wisely making above is very well explained in the middle of page 8 (in the right hand column) of the relevant IRS publication.  Compensation for traditional IRA contributions purposes (see page 10) does not include earnings that are excluded from income because they are covered by the foreign earned income and foreign housing exclusions. http://www.irs.gov/pub/irs-pdf/p590.pdf

For many folks therefore it is not possible to contribute to a US tax deductible IRA during a full year while overseas (although of course it may still be possible for the year of move).

(If you want to contribute to a Roth IRA instead you'll have to study the rules on pages 54 onwards because to calculate Modified AGI for Roth purposes one adds back income covered by the foreign earned income and foreign housing exclusions.)

One alternative for a few people might be to claim a UK deduction for permissable IRA contributions under the UK/US tax treaty, but in practice this is only likely to work in very few cases.  If you think you may be one of those then do take advice.

(If you want to contribute to a Roth IRA instead you'll have to study the rules on pages 54 onwards because to calculate Modified AGI for Roth purposes one adds back income covered by the foreign earned income and foreign housing exclusions.)

Ooooh what we already have are Roth IRAs! Hopefully that will work for us.  We're considering purchasing an investment condo that we would rent out, so maybe that would provide us with the income for those investments!

I find that money I would contribute to IRAs I can contribute towards here in the UK without having to worry about all the tax intricacies of the IRS!
Cash and Investment ISAs and stakeholder pensions are what I contribute to.  You can contribute up to £7000 into ISAs and I believe they've raised the pension threshold to more than the average Joe could possibly contribute.  What's even better about ISAs is that in many cases you can take the money out either instantly or within a short period, penalty free.  It's unfortunate they haven't got these in the US.

mattj74 is again giving sensible suggestions.

However, US tax is still not out of the picture entirely:
1. Investments held in ISA must still be reported to the US Treasury each year on form TDF90-22.1 (to avoid a $10,000 penalty).
2. Interest, dividends and capital gains on investments wrapped in an ISA must still be declared on each years' US tax return (so they are still taxable in the US even though tax-free in the UK).
3. You must be ordinarily resident in the UK to invest (many folks here for a temporary period remain not ordinarily resident for UK tax purposes).
4. An American should never ever buy any UK unit trust, investment trust or OEIC (even if wrapped in an ISA) because of the penal Passive Foreign Investment Company tax regime.  In practice this limits investments to cash ISAs and self-select stocks and shares ISAs).
5. Because most US citizens in the UK remain non-UK domiciled for UK tax purposes a much more flexible investment (without limitation) can be obtained by holding investments offshore.

4. An American should never ever buy any UK unit trust, investment trust or OEIC (even if wrapped in an ISA) because of the penal Passive Foreign Investment Company tax regime.  In practice this limits investments to cash ISAs and self-select stocks and shares ISAs).

Can you dumb this down for us non-tax savvy folk and put it in layman's terms?  Are you saying that Americans shouldn't go for investment ISAs?  What is the penal Passive Foreign Investment Company tax regime???

When filling out form TDF90-22.1, if various accounts are contained in 1 overall Bank do you declare them all together or do you have to put down each and every account you own?

Btw, I think this whole TDF90-22.1 is a completely steaming pile of shite, talk about Big Brother, what is the point of having this?  If you put your income on the 1040 why do they need this stupid TDF90-22.1?

thanks,
Matt

Matt

1. If you own any collective PFICs you need to file form 8621 http://www.irs.gov/pub/irs-pdf/f8621.pdf for each investment.   If you look sat the last page you will see that the IRS estimate it will take 9 hours and 14 minutes just to complete ONE of these forms (so if hold say 3 unit trusts it would take you more than a day to fill these out).  The net effect is much more horrid than just having to waste a day in form filling.  The tax consequences are a mandatory tax of at least 35% in taxes on sale PLUS an interest charge.  The overall US tax if one holds these things long enough could be a tax rate greater than 100%.  Generally speaking these forms require however professional advice to complete.

2. I would similarly suggest you study the instructions for the TDF 90-22.1 if you are unclear about the requirements.   The penalties for non-wilful failure to file are now an automatic $10,000. Wilful failure carries jail terms.  The background as I understand it is both to catch money laundering and to ensure that all US citizens pay taxes on worldwide incomes.  If you do not agree with the rules you have options available to you such as excercising your vote of lobbying your Congressperson.  I was only commenting on the plan so that other readers were aware of the consequences.

Guya,
I'm really out of my water on this one.  What is a PFIC?

I guess all accounts have to be listed separately if what I read on this form is true.  But only if all the accounts add up to $10,000 or more does the form need to be filed.  I have filed this form each year since I've been here, originally because I was a signatory on a club bank account that had more than $10,000 in funds, so even though none of the money is mine to use it suggests that I need to put this on the form which I have in past year.

I can see where they are coming from with the money laundering and ensuring the citizens pay taxes but surely if you're such a dodgy character that you'd fiddle your 1040, why would you be so honest on the TDF 90-22.1?  It just seems a bit redundant.

Hi Matt - a PFIC is a Passive Foreign Investment Company.  It is any foreign entity whose income is 75% passive or has over 50% of its assets in investments earning interest, dividends, and/or capital gains.  This definition would include all non-American unit trusts, investment trusts, SICAVs, Open Ended Investment Company and mutual fund PLUS any cash-rich private company.
   
Ownership in this type of entity creates significant tax implications for American investors because the IRS handles the reporting and taxation of profits differently from non-PFIC investments.  I do know any tax advisers who would suggest a US person invests in these kinds of entities because of these tax issues.  If you have been unfortunate enough to invest you may wish to seek financial redress from whoever advised you on the investment because it may have been mis-sold.

Several folks have been jailed over time for failure to file the TDF90-22.1 correctly.  I would not imagine you or other readers of this forum have this on their wish list.

Failures to file forms 8621 or TDF90-22.1 carry very large penalties.  This is one of the reasons why paying for professional advice is often worthwhile...