Tax free US retirement income??????

Maybe someone can point out the flaw in my logic.

Consider a UK citizen living in the UK with US 401k and ROTH accounts

When income is taken from the 401k  the UK citizen files a W8-BEN and claims treaty exemption from US income tax. However, the UK citizen actually rolls the 401k money directly into a ROTH and then claims treaty exemption from UK tax under article 18 of the treaty. When withdrawals from the ROTH are made there is no tax in the US or the UK.

So is it really possible for a UK citizen to completely avoid tax on 401k, IRA, 403b etc accounts? I had previously believed that tax would be paid in the UK on the rollover from the 401k to the ROTH (as the US sees the rollover as a taxable event), but if 401k to ROTH rollovers are treated as tax free by HMRC under Article 18 because it's a rollover to another qualified pension plan, as my research indicates, it looks like a big tax loophole for NRAs living in the UK with US retirement accounts.

I've gone over the treaty and IRA to ROTH rollover rules and I can't see the flaw in my argument......I think I'm too close to it and missing something obvious. But if it holds up it would be a significant benefit for NRAs and an incentive to renounce US citizenship.

edit (reason I'm an idiot)

Doh.......when you expatriate you have to pay the tax on your IRAs etc or waive treaty rights, so you'd have to pay the US tax on a 401k or IRA withdrawal.

Still all this thought has produced a nice easy way to avoid UK tax on your US retirement accounts by simply rolling them over into a ROTH.

FYI over at bogleheads.org there is an interesting case of a NRA UK citizen living in the UK who worked in the US on an H1B. He never became a long term permanent resident and so never had to file an 8854. He has an IRA and ROTH.

So if he does an IRA to ROTH rollover can he claim exemption from withholding on W8-BEN and also treaty exemption from US tax on the distribution and also claim UK tax exemption under Article 18.1? resulting in no tax paid....I must be wrong.

Doh.......when you expatriate you have to pay the tax on your IRAs etc or waive treaty rights, so you'd have to pay the US tax on a 401k or IRA withdrawal.

Still all this thought has produced a nice easy way to avoid UK tax on your US retirement accounts by simply rolling them over into a ROTH.

Doh again. You only have to pay exit tax or abandon treaty rights if your tax liability was $150k or network was over $2M or you were not up to date with your taxes.

So if you are not a millionaire maybe you can avoid US tax on your IRA money by expatriating and simply doing IRA to ROTH rollovers as a US NRA and a UK resident.

I'm surprised this thread hasn't received any comments. It's obviously either a chance for IRA owners to save a lot of tax or an example of stupidity on my part.

I would love for some one to point out where I'm wrong. Buzzacotts and HMRC have said that IRA to ROTH rollovers have no UK tax consequences and if IRA distributions to a non-covered NRA and UK resident can be exempted from US withholding and taxation by claiming treaty exemption on a W-8BEN then the money in the IRA avoids taxation.

I was 99 44/100 percent sure that a lump sum distribution from an IRA was not taxable in the UK. How one avoids tax in the US is beyond my ken.

My only opportunity appears to be lump sum withdrawals from my small IRAs which are earning zilch; 1 this year, another in 2 years later (skipping a UK tax year). My taxable income in the US would be less than my exemptions and standard deduction, so no tax due.

I was 99 44/100 percent sure that a lump sum distribution from an IRA was not taxable in the UK. How one avoids tax in the US is beyond my ken.

My only opportunity appears to be lump sum withdrawals from my small IRAs which are earning zilch; 1 this year, another in 2 years later (skipping a UK tax year). My taxable income in the US would be less than my exemptions and standard deduction, so no tax due.

I believe that a distribution from an IRA doesn't ever qualify as a "lump sum" distribution.

http://www.aaii.com/journal/article/lump-sum-distributions-from-employer-retirement-plans

So an regular IRA distribution is taxable in the UK if the owner is a UK resident. However, if the distribution is rolled over to a ROTH apparently it is not taxable. This is what confuses me and presents the prospect of zero tax on the IRA to certain NRAs who can exclude the distribution form US tax using W-8BEN an the treaty.

Don't want to argue the point, but it appears that article is only about US tax. Everything else I have read seems to indicate that HMRC does class a lump sum withdrawal from an IRA in the same manner as from any other retirement plan.

For example, the paragraph near the bottom of this article:
http://www.taxation.co.uk/taxation/articles/2005/01/06/2866/replies-queries

or this answer to a question:
http://www.taxationweb.co.uk/forum/uk-tax-on-us-retirement-ira-t34553.html
 
Except for one large IRA, my others are SEPs, because I was self-employed. In any case it appears that the UK considers an IRA a 'pension scheme' under Article 18(1).

I know what my US obligations are; at the appropriate time, if I have further doubts, I will act in accordance with instructions from the HMRC Tax Treaty team when preparing my UK self-assessment return.

Yeah the "lump sum" thing seems to be a bit of a moving target. Still I think I might have come to some logic that satisfies me wrt to this thread and explains the stance of HMRC and the IRS.

The UK won't tax the rollover because of Article 18.1. I have that from HMRC and there are other references to ROTH roillovers having "no UK tax consequences". So we just have to find out how the US sees such rollovers and I now think that they arenot even classed as a distribution for treaty purposes.  Here is the reasoning and case that leads me to that conclusion and the important part is

The proposed treaty provides that neither country may tax residents on pension income earned through a pension scheme in the other country until such income is distributed. For purposes of this provision, roll-overs [sic] to other pension plans are not treated as distributions. When a resident receives a distribution from a pension plan, such distribution is generally subject to residency country taxation in accordance with Article 17 (Pension, Social Security, Annuities, Alimony, and Child Support). [Emphasis added by the CCA.]

So the NRA cannot turn to the treaty for rollovers (according the the US) and the NRA cannot use a treaty exemption and just files a 1040NR. The good thing is that if the rollover is the NRA's only US source income their tax bill will probably be quite small.

http://www.irs.gov/pub/irs-wd/1231010.pdf

http://www.aicpa.org/publications/taxadviser/2013/august/pages/tax-clinic-story-04.aspx

Yeah the "lump sum" thing seems to be a bit of a moving target. Still I think I might have come to some logic that satisfies me wrt to this thread and explains the stance of HMRC and the IRS.

The UK won't tax the rollover because of Article 18.1. I have that from HMRC and there are other references to ROTH roillovers having "no UK tax consequences". So we just have to find out how the US sees such rollovers and I now think that they arenot even classed as a distribution for treaty purposes.  Here is the reasoning and case that leads me to that conclusion and the important part is

So the NRA cannot turn to the treaty for rollovers (according the the US) and the NRA cannot use a treaty exemption and just files a 1040NR. The good thing is that if the rollover is the NRA's only US source income their tax bill will probably be quite small.

http://www.irs.gov/pub/irs-wd/1231010.pdf [nofollow]

http://www.aicpa.org/publications/taxadviser/2013/august/pages/tax-clinic-story-04.aspx [nofollow]

Hi Nun,
There is nothing I can find that you've written on this subject since 2013. So may I presume that based on the above that a Non Resident Alien definitely CANNOT claim Treaty in US on IRA to ROTH IRA rollover?
I spoke to a reputable US/UK tax specialist at a US/UK tax advice firm (one of the top ones in London) by phone yesterday and he told me that, as a NRA, I CAN claim Treaty on IRA to ROTH rollover. He also told me that a ROTH is not HMRC tax free. I will be taxed on distributions in the UK as a UK resident. I can see by reading a multitude of posts on this site that he is he is almost certainly wrong on the HMRC tax on ROTH subject (according to most views on this site, distributions from a ROTH IRA are tax free in both UK and US).
And you have presented a very good argument above that in the case of a TRADITIONAL IRA to ROTH IRA rollover, the Treaty does not apply.
Are there any further "unturned stones" I have missed on this topic since then that you are aware of?
I am about to make a significant life change based on this subject and was considering paying the adviser's fee of £5,000 for his determination on these sujects in writing. A likely waste of £5,000 based on what you have stated above.
I shall send him the IRS quote you have laid out above for his comments before I proceed with him. Thank you.

Firstly, the relevant paragraph 1 of Article 17 of the Treaty is subject to the 'savings clause', so the IRS can tax it whatever the treaty says.

A rollover from a conventional IRA to a ROTH IRA is normally treated as a taxable distribution from the IRA with reinvestment into the ROTH IRA within 60 days.  Your argument seems to rely on the Treaty statement that a rollover from one account to another is not treated as a taxable distributiion, which clearly contradicts the intended method of rollover under normal circumstances.

From:   https://www.irs.gov/Retirement-Plans/Retirement-Plans-FAQs-regarding-IRAs-Rollovers-and-Roth-Conversions

"How do I convert my traditional IRA to a Roth IRA?

You can convert your traditional IRA to a Roth IRA by:

    Rollover – You receive a distribution from a traditional IRA and contribute it to a Roth IRA within 60 days after the distribution (the distribution check is payable to you);
    Trustee-to-trustee transfer – You tell the financial institution holding your traditional IRA assets to transfer an amount directly to the trustee of your Roth IRA at a different financial institution (the distributing trustee may achieve this by issuing you a check payable to the new trustee);
    Same trustee transfer – If your traditional and Roth IRAs are maintained at the same financial institution, you can tell the trustee to transfer an amount from your traditional IRA to your Roth IRA.

A conversion to a Roth IRA results in taxation of any untaxed amounts in the traditional IRA. The conversion is reported on Form 8606, Nondeductible IRAs. See Publication 590-A, Contributions to Individual Retirement Arrangements (IRAs), for more information."

Under Article 17, at the end of Paragraph 1 on page 63 of the Technical Explanation to the treaty it says:

 "Similarly, if the distribution were not subject to tax when it was “rolled over” into another U.S. IRA (but not, for example, to a U.K. pension scheme), then the distribution would be exempt from tax in the United Kingdom."  But under normal circumstances, a conventional IRA is subject to tax in the US when it is rolled over, as stated at the end of the prior quote, and so i suppose it would be subject to tax in the UK as a distribution even if it escapes tax in the UK due to the treaty provision.  Note that it is not tax-free in the US under the treaty; it is subject to a witholding rate of zero so that it is fully taxable in the UK without any credits being available.

If you google for this technical explanation, you will only find the defunct one from 1970s.  Neither the UK nor US authorities currently makes it available for public access it seems, so that ordinary guys like us can't read it (if it still exists).  I think one or two tax firms have paraphrased on their websites as as if it were their own advice.  I guess I must have struck lucky just after it was published and before it was removed.  I wonder if anybody has anything to say about that !?

To clarify, I should have said "But under normal circumstances, a conventional IRA is subject to tax in the US when it is rolled over INTO A ROTH IRA, as stated ...."

Hi PARKLANE,

Thanks for the reply. However I'm not sure what you were try to tell me here, excuse me.

My post referred to NUN's posts back in 2013 where he theorized that as a NON RESIDENT ALIEN who files a 104NR, W8BEN and claims US-UK DT treaty, an IRA rollover to ROTH IRA would avoid any US tax and would be left SOLELY to the UK to treat for tax purposes.
What happens then on the UK side is another topic best left alone here for the sake of simplicity.
By reading NUN’s older posts from 2013 it can be seen that later on he discovered the following little snippet that seemed to refute his theory?? And in fact the US by declaring "the snippet" seemingly can and WILL tax the the ROLLOVER despite the Treaty. (If I have understood, which is not guaranteed!),

Quote
The proposed treaty provides that neither country may tax residents on pension income earned through a pension scheme in the other country until such income is distributed. For purposes of this provision, roll-overs [sic] to other pension plans are not treated as distributions.When a resident receives a distribution from a pension plan, such distribution is generally subject to residency country taxation in accordance with Article 17 (Pension, Social Security, Annuities, Alimony, and Child Support). [Emphasis added by the CCA.]

I don't really understand the "savings clause" but I assumed it applied only to US Citizens and Green Card holders. And the US position of having to "waive Treaty" provisions would only apply to "covered" US renunciants (net worth above $2million, Green Card Holders present in US 8 out of 15 years or more etc.).

So I guess what I was asking NUN was to apply his current knowledge level (or yourself), and to answer the following:-

"Will the US tax a NON RESIDENT ALIEN, UK RESIDENT who has filed a W8BEN to his IRA custodian on his or her rollover from IRA to ROTH IRA or not?"

I consulted a London US-UK tax expert this week and he said that the US would not tax in this specific case, whereas NUN seemed to imply the US would.

Who is correct and how does one find out for sure?

Thanks for your detailed reply.

So I guess what I was asking NUN was to apply his current knowledge level (or yourself), and to answer the following:-

"Will the US tax a NON RESIDENT ALIEN, UK RESIDENT who has filed a W8BEN to his IRA custodian on his or her rollover from IRA to ROTH IRA or not?"

I consulted a London US-UK tax expert this week and he said that the US would not tax in this specific case, whereas NUN seemed to imply the US would.

Who is correct and how does one find out for sure?

Thanks for your detailed reply.

I've written some pretty dump stuff over the years, but it's all a learning process. However, the rollover of tax deferred funds from an IRA to a ROTH will be taxed by the IRS whether it is made by a US tax resident, US citizen or NRA. There is no UK tax on the rollover.

The key is that the rollover is not a distribution for tax treaty purposes. So you can't apply Article 17. This has some useful comments of rollovers and the DTA.

https://www.irs.gov/pub/irs-wd/1231010.pdf

The UK will not tax the rollover because of Article 18.1. So when you do an IRA to ROTH rollover you have to file a 1040NR or 1040 and pay the tax.

Clear, noted and acknowledged.

Thanks NUN

Ted Cruz said yesterday, "When I'm President, I will abolish the IRS and we will file our tax returns on a postcard"

Oh what a day that would be!!
Trying to stay IRS compliant has taken up a large part of my life!
It would also represent the demise of forums such as these and we could all get on with enjoying our hard earned pay.