As more and more individuals come hometo Ireland or relocate to Ireland, the taxationof assets brought with them takes onimportance once Irish tax residence isestablished. What tends to be of mostconcern is the myriad of pension productsthat individuals accumulate while living andworking outside of Ireland.
The tax treatment of overseas pensions, and in particular,the taxation of lump sum payments from foreign pensionsis an increasingly complex affair under Irish tax legislation.This article will examine the tax treatment of overseaspension income and overseaspension lump sum payments,together with the current Irish Revenue position on such lumpsum payments.
Taxation of Foreign Pension Income
Irish Domestic Legislation
The good news is that the taxation of foreign pension income(i.e., regular, ongoing payments) is relatively straightforwardfor Irish resident taxpayers. Foreign pension income ischargeable to Irish income tax under Schedule D Case IIIby virtue of Section 18(2)Taxes Consolidation Act (“TCA”)1997. There are some rules, particular to non-Irish domiciledtaxpayers, which are discussed later in this article.
Ireland has three charges on income - Income tax,Universal Social Charge (“USC”) and Pay Related SocialInsurance (“PRSI”). The Irish income tax system has beenlabelled as progressive, in that the tax rates progressivelyincrease as income increases.
Pension income is liable to income tax and USC. However,PRSI is normally not levied on pension income. An Irish taxresident individual is entitled to a personal tax credit of€1,700 per tax year, and the first €36,800 of income is subjectto income tax at 20%, the standard rate band. Taxpayersjointly assessed with a spouse can avail of a higher standardrate band, the precise amount of which is determined bythe extent of the income of the spouse. Both the taxpayerand spouse must be tax resident in Ireland to avail of jointassessment.
Social welfare income, including both Irish and foreignsocial welfare pension income, is exempt from USC.Individuals are also entitled to an age tax credit once thetaxpayer reaches the age of 65 and a married couple maybe entitled to a joint credit of €490. Certain foreign pensionincome may also qualify for a further tax credit of up to €1,650.*
Once an individual becomes Irish tax resident and is in receiptof foreign pension income within the charge to tax in Ireland, the individual will need to:
– register for income tax,
– include details of the pension income on a self-assessmenttax return filed with the Irish Revenue on an annual basis, and
– pay tax to Irish Revenue.
The annual Irish tax return is due for filing by 31st October eachyear, and tax payments are due on the same date. The deadlineis generally extended to mid-November where returns andpayments are made electronically.
International Considerations
In general, most tax treaties with Ireland will allocate the taxingrights of foreign pension income by reference to where therecipient of the pension is resident at the time the pensionpayment is received. Therefore, typically, foreign pension incomeis only taxable in Ireland if the individual is Irish tax resident underboth Irish domestic legislation and the tax treaty in question.There can however be anomalies in some treaties.
For example, the Ireland-US Income Tax Treaty allows the USto continue to tax pension income of US citizens who are taxresident in Ireland as there is a specific provision applying to suchindividuals. It is known as the “saving clause” because the USsaves the right to tax its citizens as if the treaty had not come intoeffect. Depending on the treaty, limited exceptions to the savingclause may exist. The US effectively included a clause in theIreland-US Income Tax Treaty to ensure that the US can continueto tax its citizens even if they become tax resident in Ireland.Therefore, for these individuals, both Ireland and the US havetaxing rights on the US pension income. This should be read inconjunction with the Irish taxation of US Social Security pensionswhich is dealt with later in thisarticle.
The Ireland-US Income Tax Treaty permits a credit for doubletaxation and this generally operates by allowing a credit in the US,allowing Irish tax paid on US pension income to be set off againstthe US tax liability on the same income. Typically, the Irish tax rate
exceeds the US tax rate, so there should be no additional tax onUS pension income when filing US tax returns, when the income isalso chargeable to tax in Ireland in the same taxable period. Whilethere may be no US tax cost, from a compliance perspective, therequirement to file returns in both jurisdictions can be a burden.
There also might be merit in considering early encashmentof foreign pensions before resuming Irish tax residence if theoverall Irish tax rate/effective rate will be penal. This usuallyinvolves a number crunch exercise in the foreign jurisdiction andcomparing this to the Irish tax treatment to see what will givethe taxpayer the best result, while also taking into account theirpersonal circ*mstances.
Exemptions Under Irish Domestic Legislation
As already noted, pension payments to Irish residents froma foreign pension source are taxable under Schedule D CaseIII, as per section 18 TCA 1997. However, section 200 TCA1997 provides that certain foreign pensions are exempt fromIrish tax. Several conditions must be satisfied before theexemption applies:
01. It must be a pension, benefit or allowance which is:
- Given in respect of past services in an office oremployment or
- Payable under the provisions of the law of aforeign country in which the pension ariseswhich correspond to certain Irish legislationwhich governs Ireland’s pensions, benefitsand allowances for the purposes of our SocialWelfare legislation.
03. The country in which the pension, benefit or allowancearises has a tax which is chargeable and payable underthe law of that country, and which corresponds toincome tax in Ireland.
04.If that pension, benefit or allowance were received by aperson who is resident in the country in which it arisesand not resident elsewhere, it would not be regarded asincome for income tax purposes in that country
This can be a very useful exemption where Irish individualswho have been living abroad for several years return toIreland to retire. It is key to determine if the foreign pensionwould have been exempt from income tax in the foreignjurisdiction, had it been received by the person as a residentof that foreign country. In practice, this exemption hasbeen seen to operate in Ireland on pension payments fromAustralia, Switzerland and US Roth IRAs, where paymentshave been received by Irish residents.
For the purposes of section 200 TCA 1997, theterm “tax” in relation to any country means the tax that ischargeable and payable under the law of that country andwhich corresponds to income tax in Ireland. It is necessaryfor the country in which the benefit arises to have a taxthat meets the foregoing criterion. Countries that do nothave an income tax system like Ireland would not satisfythe conditions for the exemption to apply. The United ArabEmirates is an example.
Some Australian pension funds are structured so Australianresidents are not subject to tax in Australia once the pensionfund starts to pay out. This is because contributions arenot relieved from tax with relief applied on payments fromthe pension instead. On this basis, some Australian pensionincome may be exempt from Irish tax under section 200 TCA1997 once an individual becomes Irish tax resident.
It is important to note that some foreign pension payments are nottaxable in a foreign jurisdiction for individuals who are consideredto be nonresident, however, the payments would be taxable if theindividual were resident in that country at the time of receipt. The
exemption would not apply in these circ*mstances as the personcannot be subject to income tax in the foreign jurisdiction werethey resident there.
It is important to distinguish between the different typesof pensions, benefits and allowances that can be paid by asocial security regime in a relevant jurisdiction. For example,Irish residents in receipt of a US Social Security pension willbe subject to tax in Irelandas these payments are specificallyexcluded from the exemption. The reason for excluding US SocialSecurity pensions from the exemption is that the US allows foran exemption from tax in the US, on the basis that the US SocialSecurity pension would be subject to tax in Ireland. In effect,the taxing rights have been transferred from the US to Irelandin this regard.
It is also important to distinguish between the different typesof pensions that can be paid by a social security system. Theremay be other types of pensions paid to Irish residents which arenot covered by article 18 of the Ireland-US Income Tax Treaty.Those other types of pensions could potentially benefit fromthis exemption. Examples of such pensions could be itemssuch as disability payments, war-related pensions, and othergratuity payments.
As you can see, understanding the type of payment thatis received by an individual is important to determine the taxtreatment. A payment from a private pension may be taxable inIreland (and the US) while a benefit, state pension or allowancemay be exempt under Irish domestic legislation. Alternatively,the source country may retain taxing rights over the paymentor relinquish such rights.
Taxation of Foreign Pension Income and the Interaction with Remittance BasisTaxation in Ireland
As noted, foreign pensions are a taxable source of income inIreland. In general, the taxation of such pensions is determinedby reference to the individual’s tax residence position in Ireland.However, in Ireland an individual’s domicile is relevant fordetermining the extent of that person’s exposure to Irish taxation.In this context, individuals living in Ireland can be classifiedbroadly into two categories for determining taxation status:non-Irish domiciled and Irish domiciled.
An individual who is resident in Ireland but who is not Irishdomiciled is liable to Irish tax on all income and gains arisingin Ireland. However, for most types of income and gains, thereis no Irish tax on foreign income and gains provided that theincome/gains are not remitted into Ireland. This is known asthe remittance basis of taxation. Foreign source pensionincome is subject to tax under Schedule D Case III. This canhave either favorable or unfavorable consequences. Thefavorable consequence is that the pension income couldbenefit from the remittance basis of taxation. The unfavorableconsequence is that treaty benefits in the source countrymay be lost if the income is not taxed in Ireland becauseit remains offshore. Some income tax treaties containprovisions that are designed to curb double non-taxation bypermitting an override of benefits in one country or the other.The purpose of those provisions is to ensure that the pensionincome is either taxed in Ireland if remitted or the sourcecountry if the income is not remitted.
If an individual remits pension income to Ireland where aclause like this exists with the source country treaty, Irelandwill tax this income in the year of remittance. One planningpoint that should be considered is to confirm the tax ratethat applies in each country. If the rate of tax is lower in thesource country, it may be beneficial to leave this pensionincome to be taxed in the source country and not remit it toIreland. Alternatively, if the Irish tax rate is lower, the pensionshould be remitted.
Lump Sum Drawdowns from aForeign Pension in Ireland
Background
To appreciate the taxation of lump sum drawdowns in Irelandit is important to understand the historical position regardingthe Irish taxation of lump sum drawdowns.
Prior to 7th December 2005, Ireland did not have anydomestic legislation which taxed lump sum drawdowns frompension funds. This meant that lump sums of 25% of thevalue of a pension fund could be taken tax-free regardless ofthe value of the pension fund. In Finance Act 2006 the IrishRevenue introduced section 790AA TCA 1997 which put anend to this treatment. Section 790AA TCA 1997 is the sectionwhich governs the taxation of lump sum payments in excessof a tax-free amount. This meant that the tax-freeamountwas capped at a value of €200,000 and any excess over andabove that would be taxed at 20% up to a total drawdown of
€500,000. Any balance over and above €500,000 would be
taxed at marginal rates.
For the purposes of the legislation, “a lump sum” is areference to a sum that is paid to an individual under the rulesof a “relevant pension arrangement.” A “relevant pensionarrangement” means any one or more of the following:
– A retirement benefit scheme within the meaning of Irishlegislation which has been approved by the Irish RevenueCommissioners,
– An annuity contract or trust scheme or part of a trustscheme approved by the Irish Revenue Commissioners,
– A PRSA contract, within the meaning of Irish legislation,
– A qualifying overseas pension plan,
– A public service pension scheme within the meaning of Irishlegislation, and
– An Irish statutory scheme.
For the purposes of lump sum drawdowns from foreign pensionschemes, the only category that is relevant to consider is aqualifying overseas pension plan.
An “overseas pension plan” is defined in Irish legislation tomean a contract, an arrangement, a series of agreements, a trustdeed, or other arrangements – but not a state social securityscheme – which is established in or entered into under thelaw of the United Kingdom or a Member State of the EuropeanCommunities, other than Ireland itself.
For the purposes of the Irish legislation, a “qualifying overseaspension plan” means an overseas pension plan (i) which isestablished in good faith for the sole purpose of providingbenefits of a kind similar to those referred to in Irish legislation,(ii) in respect of which tax relief is available under the law ofthe Member State of the European Communities in which theplan is established (or the United Kingdom) in respect of anycontributions paid under the plan, and (iii) in relation to whichthe relevant migrant member of the plan complies with therequirement in Irish legislation in order for it to qualify as aqualifying overseas pension plan.
The above requirements mean the administrator of the pensionplan must have the overseas pension plan “blessed” by theIrish Revenue Commissioners for it to fall within the definitionset out in section 790AA TCA 1997. As a result, most foreignpensions schemes are considered nonqualifying overseaspension plans because they haven’t been blessed by the IrishRevenue Commissioners. Therefore, lump sums from such pensionschemes are not taxable in Ireland as we have no domesticlegislation to tax lump sums.
Current Irish Revenue Position
The foregoing historical background sets the scene in relation tothe history of this topic. However, the Irish Revenue’s position haschanged over the years in relation to this matter.The Revenue’s current interpretation is that income from foreignsecurities and possessions is charged under Schedule D Case III,which is correct. However, they state that it includes the profitsor gains arising from any kind of property the person possesses,
including pension lump sum payments.
The Revenue’s currentposition is that the commutation of such lump sums is subjectto income tax under Schedule D Case III as they are consideredto be “foreign possessions.” Accordingly, if a payment (evena lump sum) is paid from a foreign pension fund, the Revenueconsiders it to be income arising from possessions outside theState. As pension payments to Irish residents from a foreignsource are normally taxable under Case III of Schedule D,the receipt of a lump sum from a foreign pension is a taxablesource of income, liable to Income Tax and USC. This stanceis a fundamental change in Revenue practice. Of greaterimport, the Revenue have not formally notified practitionersof this change, nor have any of the appropriate manuals beenupdated to reflect this change.
Current Irish Practitioner’s View
Income tax in Ireland can be imposed only if there is adomestic charging provision. The Revenue are attemptingto impose an income tax charge under Schedule D Case III.Income tax is chargeable on income and not capital. ScheduleD applies to income only. As there is no income arising, acharge under section 18(2) TCA 1997 cannot arise. Undersection 18(2) TCA 1997, the foreign possession is the foreignpension plan. Therefore, from a technical perspective, it isdifficult to see how the Irish Revenue can legitimatelyviewlump sum drawdowns as taxable income under Schedule DCase III. Lump sum payments are capital, not income. Theultimate conclusion is that a charge under Schedule D Case IIIcannot arise.
Looking at first principles, if a pension fund has beenaccumulated while an individual was neither Irish tax residentnor ordinary tax resident in Ireland, the taxation of any lumpsum drawdowns from this pension fund is outside the scopeof Irish taxation. This is because it is a well-accepted principlethat capital accumulated before an individual becomesresident in Ireland is outside the scope of Irish tax. The lump sum cannot be classed as employment-relatedincome because the employment related to the funding of this
pension was carried out wholly outside of Ireland. Moreover,it was accumulated from contributions out of foreign incomein respect of which no Irish tax relief was provided.
As discussed above, the foreign lump sum drawdown isnot taxable under section 790AA TCA 1997 because thissection relates only to “relevant pension arrangements.”As the pension arrangement is not within the definition of aqualifying overseas plan, thedrawdown is not taxable underthis section.
Another section which should be considered is section781 TCA 1997, which deals with the taxation position forindividuals who decide to commute their entire pensionin one lump sum. This section applies to an approvedpension scheme and specifically does not apply where theemployment was carried on outside Ireland.Finally, there is an old Revenue precedent, Precedent 28,dated 30th July 1987, which states that the tax-free lumpsum in commutation of foreign pensions is not taxable inIreland, should an individualcome to live in Ireland followingretirement. Because this precedent is more than fiveyears old, the Revenue are no longer willing to confirm theapplication of this precedent to lump sum drawdowns of foreignpensions by Irish residents. Nonetheless, Precedent 28 is widelyrelied upon by practitioners.
Conclusion
As is evident from this article, the taxation of pensions in Irelandis complex. The trend we are seeing is that each foreign pensionplan becomes more complex than the next. Individuals arereturning from places such as the UK and the US with pensionssuch as 401(k) plans, individual retirement accounts (IRAs), 529plans, and 527 plans, all of which have a firm and certain purposein relation to the source country in which they originated. Difficulttax issues arise when individuals move from one jurisdiction tothe next, bringing along their entitlement to pension payments.A wider implication of this stance by the Revenue is the principlethat capital accumulated by an individual prior to becoming anIrish tax resident is within the scope of Irish taxation.
It is likely that we may have a firm view on the position soonerrather than later, as it is understood consideration is being givento amendments to Irish tax legislation to provide that foreignpension lump sums drawn down by Irish residents will receivethe same tax treatment as Irish pension lump sums.
* All tax rates and bands are correct when going to press. Sincewriting this article, Finance Bill 2022 was published on 20thOctober 2022 and has proposed new rules relating to the taxationof lump sum payments from foreign pensions. These proposed
new rules will not apply to distributions that were made before1st January 2023, but they are indicative of Revenue’s approachto the taxation of lump sums from foreign pensions in recentyears, which I have written about extensively in this article.The proposed changes in law make it clear that lump sumpayments from foreign pensions are subject to income taxin Ireland and include a specific charging provision underSchedule D Case III, but will allow for the same lump sumexemptions from which Irish pension funds benefit. FinanceBill 2022 will pool lump sums taken from foreign pensionarrangements from 1st January 2023, with lump sums takenfrom Irish pension arrangements since 1st January 2011 forthe purposes of the EUR200,000 tax free and EUR300,000taxed at 20% lump sum limits.
While there is no technical basis for such an approach,the proposed change may make it more likely that Revenuewould seek to charge income tax on lump sum distributionsfrom a pension prior to 2023. However, the fact that therewas a need to include a specific charging provision in theproposed rules to bring lump sum payments within ScheduleD Case III can also be used as a basis for arguing that lumpsum payments prior to 2023 are not subject to income tax inIreland, because of the lack of a charging provision.
While the view is that any lump sum payments receivedprior to 2023 are not taxable in Ireland, the Irish Revenueview may be different, and there would certainly be somerisk involved in treating the payment as exempt from Irishtax as discussed in this article. Time is ticking on this oneand caution and advice should be sought for any foreignlump sum payments that are drawn down before 1st January2023, assumingthe change is passed into law before the end of 2022.
